Crisis Decades in the Making: Why Fed's Rate Hikes Can't Save the Day for US Economy

On June 15, the US Federal Reserve raised interest rates by a whopping 0.75 percentage points. The largest hike since 1994. However, the Fed has signaled that it will continue lifting rates to at least 3 percent this year, regardless of recession fears, as inflation rages in the US.

Tom Luongo, a financial and political commentator, argues that the Fed has no other alternative but to opt for aggressive hikes, as it has to "reverse the mess created by Congress and US politicians since the 2008 financial crisis."

"The US economy is a mess because of years of zero-bound rates," says the commentator. "The bust that the Fed is engineering is the cure for the disease of malinvested capital because of [former chairs of the Federal Reserve] Janet Yellen and Ben Bernanke’s horrendous policies which allowed Congress to run up a massive debt which cannot, in most versions of reality, ever be paid back."

According to Luongo, the unfolding crisis was "manufactured" by the US political leadership, which stepped up spending and funneled billions to fund wars as inflation and the national debt continued to rise.

"Biden and his merry band of vandals want to remake the US economy into something less efficient and driven by their Climate Change ideology which is a cover for destroying all vestiges of capitalism via commercial banking in the US, if not the entire world," argues the financial commentator.

Alarm bells over inflation started to ring in autumn 2021, but the early warning signs were ignored. In September 2021, inflation barely registered as a top concern, but the next month consumer prices went up, with inflation hitting a 31-year high. The Fed had long shrugged off the disturbing trend as a "temporary" matter. However, at the November 2021 meeting of the Federal Open Market Committee and the Board of Governors of the Federal Reserve System, the officials admitted that inflation was intense and could be long-lasting.

The January 2022 Consumer Prices Index (CPI) indicated that year-over-year inflation rose to 7.5 percent, its highest rate in 40 years, and continued to rise, prompting the Fed to start gradual interest hikes in March 2022.

Fed's Policy is Another Attack on the Middle Class

"The common tendency is to think of inflation as caused by too much money," says Dr. Paul Craig Roberts, US economist and ex-assistant secretary of the Treasury in the Reagan administration. "In this way of thinking, the reason to raise interest rates is to make credit more expensive, thus causing less demand for loans and in this way reducing the growth of the money supply which, in turn, reduces inflation."

While it is true that the US has had amazing money growth, very little of this money got into consumer prices, according to Dr. Roberts. In fact, the Fed created trillions of dollars (QE, Quantitative Easing) to bail out large banks from their bad investments.

The Fed-generated money didn't find its way into consumer prices but the prices of financial assets, such as stock and bond prices, and real estate prices, according to the former Treasury official. As a result, home prices were driven up, but low interest rates lowered the carrying cost of mortgages.

"The current 0.75 or three-quarters of one percent rise in interest rates cannot impact an inflation rate of 8, 10, or 12 percent. The real rate of return on debt instruments is hugely negative," argues Dr. Roberts.

According to the economist, the principal effect of the Fed's interest rate rise will be to price some home purchasers out of the mortgage market, and enable private capital companies to acquire homes for rental income.

"The result is to reduce US home ownership, to increase rental income to the rich, and to deprive citizens of the main source of middle class wealth accumulation – the rise in housing values," he says. "In other words, the Fed's policy is just another attack on the middle class, further reducing its numbers and thus consolidating more power in the hands of the rich."

Trader Patrick King works the floor at the New York Stock Exchange, Thursday, May 12, 2022, in New York

© AP Photo / John Minchillo

Yet another effect of higher interest rates is the curtailment of liquidity, according to Dr. Roberts. The equity and debt (stock and bond) markets rise with liquidity and decline when it's curtailed, the Fed's current policy will send stock and bond prices down and paper wealth will be reduced with their fall. Dr. Roberts warns this causes losses to pension funds, thus endangering pensioners' prospects, adding that the loss of wealth, in its turn, reduces consumer expenditures.

"This is another factor in addition to the higher consumer prices in curtailing consumer spending, thus placing the economy into recession," he remarks.

"The open question is whether the large banks are now strong enough or whether they will be endangered by the decline in paper wealth," says Dr. Roberts. "A few years ago the Fed tried tightening and had to abandon the attempt. This time the Fed might stay with it."

According to the former Reagan official, the Fed's policy signals that the US "ruling elite" has decided that "Biden has to go": "Inflation and unemployment are efficient means for the monied elite to get rid of a president," he says. "The Fed, of course, is the servant of the monied elite."

'Western World Committed Economic Suicide'

Galloping inflation threatens to deprive the Democratic Party of its slim congressional majorities in the House and the Senate in the upcoming November midterms. Meanwhile, 95% of registered American voters say that inflation is a "serious issue", according to a May poll conducted by Harvard CAPS-Harris. For their part, researchers behind the GenForward project at the University of Chicago found that inflation is now the greatest concern among American voters and may play a crucial role during the forthcoming elections.

US President Joe Biden has repeatedly tried to publicly shift the blame for the raging inflation on Russia, the US oil industry, and the Federal Reserve, stressing that it's up to the latter to tame inflation. However, the plurality of American voters believes that the Biden administration is responsible for the unfolding situation, surveys show.

The Biden administration did a lot to upend the US economic growth and drag the country into the inflation abyss, according to Dr. Roberts.

"There is another way to think about inflation – an insufficiency of supply," he explains. "Two major events have reduced supply relative to demand. The Biden regime's COVID lockdowns stopped much production, destroyed supply chains, and resulted in the permanent closing of many businesses. On top of this supply reduction, the Biden regime's sanctions against Russia and the world further reduced supply by prohibiting existing business relationships. Thus, supply has had two major reductions. Moreover, higher interest rates themselves raise costs, thus further restricting supply."

ANNAPOLIS, MARYLAND - MAY 27: U.S. President Joe Biden delivers the commencement address during the graduation and commissioning ceremony at the U.S. Naval Academy Memorial Stadium on May 27, 2022 in Annapolis, Maryland. A total of 1,100 sailors and Marines graduated from the service academy.

© AFP 2023 / CHIP SOMODEVILLA

However, it's not only Biden's fault but decades of self-harming policies by the US ruling elite that inflicted damage on the US economy, according to the former official. The crux of the matter is that "for the past 25 or 30 years US manufacturers seeking lower labor and regulatory compliance costs moved their production for the US economy offshore to Asia, principally China," he notes.

"To move production for your own consumers to another country is an insane policy," Dr. Roberts says. "But Washington is prone to insane policies, and we are now paying the consequences."

According to the economist, high value-added, high productivity jobs were moved offshore at far lower costs, thus raising the profits and share values of offshoring corporations, but reducing the income growth of the working population.

"'Globalism' was a cover for this desertion of American workers and the tax bases of cities and states, which to survive began selling off public assets to private interests," the former Reagan official stresses. "The question before the US is: 'How does a country recover when it has placed so many of its own high income jobs into the economies of foreign countries?' As far as I can tell, the Western world has committed economic suicide."