www.history.com/news/1929-stock-market-crash-warning-signs
“History doesn’t repeat itself, but it often rhymes.” Mark Twain never lived to see the Federal Reserve, but he probably would have been able to recognize it’s cyclical nature.
The Federal Reserve has a long history of facilitating a “boom and bust economy,” and sometimes, it creates interesting new financial environments that can be hard to navigate.
No two times in history are the same. The past is not an analogue for the present. Yet, the past can provide us with clues to decode the present. So, how have these cycles played out in the past?
When the economy is doing great, more folks gain access to easy money and can afford to buy things that they didn’t have access to before. However, this creates a great imbalance in supply and demand, causing money to be worth less. In this case, something has to be done to increase the value of money.
Have you ever played a video game such as an mmorpg, and wondered why the currency was worthless? This was a huge problem in many games of that genre. The problem was that there was a constant inflow of money into the game, but no way to lower the supply of money. This is why developers implemented “gold sinks” to force players to spend in-game currency and take it out of circulation. In games with no gold sink, you are eventually forced into a barter economy.
Well, the last 11 years have essentially been “gold sink”-free, as the Fed pumps free money around the economy- and if it continues, the US dollar will become worthless. This is why the fed implemented rate hikes last year. Ok, so things are probably under control, right? Well… probably not.
The issue here is that, even though the Fed has raised rates, inflation is still not under control. This is kind of strange. If you look back, every time the fed has raised rates, it has led to a recession. Well, where is our recession now? There’s something different happening this time.
Do you eat fast food? Do you pay attention to how much you’re paying? Probably a lot more than you were a couple years ago, huh? Are you still eating fast food? You probably are. This is exactly the problem. People are seemingly unfazed by higher prices. It’s very easy to swipe a card. If you were instead handing over a $20 bill for your burger and fries, would it bother you then? Paying for things is just so damn easy now that people likely don’t even realize how much they’re spending! And this spending is getting dangerous…
Overspending means a growing economy. This is making it pretty hard for the Fed to fight inflation. The only way the Fed can fight inflation is to become a gold sink. The fed has to raise rates. But, rates are already extremely high. Could a few hundred more basis points cause much harm? Probably… and it would be devastating.
If you own a home, you already likely know the effect that a slight rate increase can have on a mortgage. It could affect your payments by hundreds of dollars per month. Now imagine this effect, but applied to trillions of dollars of corporate and consumer debt that has been racked up under ZIRP.
So, we are presented with two outcomes here. Outcome one: the economy slows down due to fed up consumers finally decreasing demand, leading to a recession. Outcome two: the Fed calls our bluff and raises interest rates even more, sending us spiraling into a depression.
Given the regarded state of our country at the moment, my vote’s for number two.
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