Rob’s Model – Generalized

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by Dave

If you take the model Rob is talking about to its logical endpoint, then you basically have the central banks buying everything.  The price of money drops to 0%, and the central bank owns large shares of the stock and bond markets.  That’s where Japan is, and so let’s imagine that the rest of the world does the same thing in response to <whatever disaster> befalls us moving forward.

What if the Fed owned half the bond market, and half the stock market?  What effects would that have?

Certainly it would stabilize asset prices.  Infinite money printing means infinite ability to buy stocks and bonds.

Yields would end up dropping through the floor.

Fed would have to pay IOER to keep the money from flooding into the economy.  This would be a direct transfer from government to the banks.  That number could get really large.  Banks win.  No need to take risk and lend, guaranteed income.

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The number of zombie companies would increase over time.  Perhaps they would end up dominating the landscape.  Its hard to compete with a giant company that can never die, no matter how poorly it does, because the Fed will buy its bonds no matter what.

Savers and pensioners would be the big losers.  Yields would drop to some infinitesimal value, like it is in Europe.  No point in saving anymore if you can’t get yield.

Resources would get used less well over time.  (see “zombie companies”, above).  Cartels would get stronger (they get free money).   In essence, the economy would turn into a command economy.  Cartels would run everything, they would control government, they would be kept in business by the Fed, who would own both their equities and their debt, and (presumably) would send directors to board meetings.  They’d have to hire a bunch of new staff to handle all those board meetings.

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Basically capitalism as we know it would be over.

What are the implications of that?  Utter stagnation.  Large established companies are terrible at innovating.  It runs counter to everything they want to do – which is basically keep their current income streams in place.

No doubt the executives would be extremely well compensated for all their hard, difficult work.  And with no chance of failure, they’d stay in their slots forever.

It is possible that the Fed understands this would be the logical end state of Rob’s model, and would actively try and avoid such an outcome.  Perhaps they feel preserving some of the good parts of capitalism is worth taking a little market risk for.

Or maybe that’s just my hope talking.

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