In a recent op-ed discussion in the the New York Times and the Washington Post current Presidential candidate Bernie Sanders and former Treasury Secretary Larry Summers debated changes to be implemented at the Federal Reserve. Although they disagreed on certain issues, both agreed that the Fed should not have started raising interest rates from the near-zero mark it has held for the past 7 years, echoing calls by other liberal pundits who believe rates should stay low indefinitely to help the poor and working class. The facts in this case are clear: low interest rates do not help workers.
Seven years ago there was a theoretical debate to be had about whether and how low rates would stimulate the economy, lead to more hiring and drive higher wages. Today that debate is settled. Virtually every statistic of wages in America shows that workers have stagnated during the expansion. Wall Street has rebounded, corporations have been profitable and the economy has grown, but laborers have not shared in the gains. Although the unemployment rate has dropped significantly much of the drop is from people leaving the labor force, possibly because they couldn’t find a quality job, as the jobs created during the recovery have on average been for lower wages and less security than ones lost during the recession.
If low rates are good for workers, then why has the only recovery to feature many years of near-zero rates resulted in less gains for labor than any prior recovery?
In his op-ed Senator Sanders argues that low rates allow companies to borrow more, presumably to hire more workers. But that’s not how companies generally work. The cost of debt is usually fixed, whereas the benefits of labor are volatile. Imagine you are a pizza shop owner thinking of expanding in the current tepid economic environment. If you are to borrow money, would you rather spend it on an extra worker that may or may not quit or ask for a raise at any time or invest in a machine that has fixed costs and a predictable lifespan?
For companies that do want to borrow, there’s the question of who gets access to the Fed’s accommodative policy. Advocates like Sanders and Summers talk as if anyone who wanted to borrow money can, but that is hardly the case in today’s economy. As a general rule of thumb the lending goes to those that need the money least, such as large corporations who already have access to other sources of financing. In 2015 public companies in the S&P 500 borrowed a record amount. We know the borrowing didn’t translate to hiring because there was no concurrent jobs boom.
It helps to observe the mechanics. The biggest borrowers in 2015 were companies doing acquisitions, like when AT&T borrowed $17B to buy DirecTV. Acquisitions lead to job cuts, not hiring, as has been the case at countless firms taken private as leveraged buyouts, one of the most direct consequences of the Fed’s accommodative policy. The rest of the borrowing has mostly gone to finance share buybacks, where public companies buy their own stock to boost its value. Buybacks are great for management and shareholders, but they do nothing for workers. Firms like IBM, one of the biggest players in the borrow to buy back game, have net reduced headcount while borrowing more and more.
Which brings us to the most surprising aspect of liberal support for low rates: although there is little evidence low rates help the poor or working class, there is plenty of evidence that they help the rich and powerful. The stock market for example is at all time highs, and you’d be hard pressed to find a stock pundit who doesn’t credit the Fed for much of those gains. Most stocks are owned by the wealthiest citizens, people like Mark Zuckerberg or the Waltons. Many other asset classes have been booming as well, from urban real estate to contemporary art. Experts in those fields almost universally agree that low interest rates have played a big part in their respective boom. Middle class workers don’t own expensive art or Manhattan condos.
To their credit advocates like Bernie Sanders have made the growing wealth gap in America a central issue. So why do they keep defending one of the main drivers of that gap? It’s no coincidence that while growth has been continuously weaker than expected during the recovery the rich still keep getting richer. When retailer Petsmart was taken private in a leveraged buyout financed by cheap debt last year it’s shareholders got richer because their stock was taken out at a premium. It’s management also made out because they owned a lot of shares, and it’s new private equity owners got richer as they charged their investors a fee to execute the deal. The only losers were the companies’ employees, who unsurprisingly faced layoffs.
It’s time to stop pretending that seven years later a policy that clearly helps the rich will someday possibly also help the working class. It’s a trickle-down economic policy that’s done more harm than good.