"My only question is, who is our bigger enemy, Jay Powell or Chairman Xi?"
The End of Magic Money?
“If the Fed loses its independence, the age of magic money could end in catastrophe”. That is pretty much how Sebastian Mallaby starts his article in the July 2022 edition of Foreign Affairs – called The End of Magic Money, which you can find here. As Mallaby points out, although the Federal Reserve Bank has not lost its independence (yet), it has fumbled enough in recent months that one is entitled to question its credibility.
By not taking the inflation ghost seriously enough for too long, it has ended up in the unenviable position of having to make compromises on its twin objectives – price stability and full employment. Although Mallaby doesn’t discuss the performance of any other central banks, on a personal note, I would add that the Fed is far from the only central bank spending time in the sin bin at the moment. Take for example the BoE, which is governed by a highly intelligent but rather inept Andrew Bailey, when it comes to understanding the finer details of financial markets. He clearly demonstrated his lack of finesse during the recent UK pension fund crisis, which was instigated by an even more inept Liz Truss.
Behind the recent fiascos is a monetary policy discipline introduced in the wake of the Great Financial Crisis in 2008 called MMT – Modern Monetary Theory to be precise, but often referred to as the Magic Money Tree by critics of the discipline. However, before you start arguing that the concept of Magic Money Trees has never worked and never will work, I should point out that, for the first 36 quarters, following the introduction of the first Magic Money Tree in 2009 – perhaps better known as QE – US inflation averaged only 1.5% and never exceeded the stated target rate of 2%.
Likewise, when Covid-19 struck in the spring of 2020, the Fed decided to harvest another Magic Money Tree and, again, the early results were impressive. US GDP dropped 32% year-on-year in 2Q20, the worst post-WW II quarter on record but, instead of going into a deep and long-lasting recession, the Fed’s swift response brought the US economy back on its feet very quickly.