The For the People Act would loosen the financial industry’s grip over our political system.
Right after he was inaugurated, President Biden told federal regulators that they must henceforth consider economic inequality and racial equity. This is an overlooked but critical change — the United States can’t have robust economic growth without economic equality and, the more unequal we get, the greater the odds also for still more frequent and destructive financial crises.
The rules Biden has in mind are those that deal with fair housing, taxation, environmental justice, and other recognized sources of inequality. However, economic inequality is at its root about money and nothing moves money as powerfully as monetary and regulatory policy. Thus, as my new book makes clear, equitable policy must also prioritize rapid reform of financial policy. And, unlike many other reforms, equitable financial policy generally doesn’t take new law; all it needs is new will.
The reason financial policy has such an impact on equality is straightforward: economic inequality works like an engine — unless someone steps on the brakes, the cumulative force of unequal policy makes the rich wealthier, the poor still worse off, and the middle class just a statistical median with little to show in terms of day-to-day financial security. Many policies — taxation, trade, and so forth — power the engine, but the fuel of economic inequality, as its name denotes, is money.
The Federal Reserve sets monetary policy under a statutory mandate demanding maximum employment, price stability, and moderate interest rates. The last of these mandates is almost never mentioned, but it’s established in law for reasons all too evident after years of ultra-low rates that are often negative after taking inflation into account: low interest rates make paupers of savers and princes of stock-market investors.
With rates at or below zero, it’s simply impossible for most Americans to save for a home down payment, ensure a secure retirement, or establish the financial cushion needed for the unexpected. Economists argue that low rates lead to “maximum employment,” but employment rates even before Covid obscured the reality that millions of Americans are working gig or part-time jobs or have just given up searching.
Low interest rates make paupers of savers and princes of stock-market investors.
Since 2008, the Federal Reserve has also become a $7.4 trillion bank, soaking up safe assets in hopes of generating economic growth. Instead, we had the weakest economic recovery in recent memory and then the 2020 financial crash that made Covid’s economic cost still worse.
Post-crisis financial regulation hasn’t done equality any good. Banks are much safer due to lots of new rules, but these new rules cost them money and many responded by turning into wealth-management and investment-banking behemoths. The Fed’s models didn’t predict this, but banks follow the money, not the model.
As private-sector firms backed by short-tempered investors, banks had little choice but to revise their business strategies to reflect the earnings reality of a new regulatory construct. And when they exited key sectors, unregulated nonbanks stepped in. This kept the economy’s lights on, but the lack of regulation put vulnerable households at greater risk and laid the groundwork for 2020’s crash.
However, there are solutions readily at hand that would quickly make financial policy a force for equitable good.
First, the Fed must understand that the way it judges employment, price stability, and prosperity relies on aggregates and averages that obscure the reality for most American families. Relying on different data may seem like a pedestrian solution, but bad data means bad policy with unintended consequences. The Fed doesn’t want to make America less equal, but it did so in part because it mistook the mean for the median.
The reason that the Fed can’t quickly raise rates or reduce its huge portfolio underscores why it should: financial markets are now so dependent on the Fed — rather than economic fundamentals — that any monetary-policy change badly rattles the financial system. Forward guidance needs to alert financial markets to a gradual, measured shift to a more normal system in which the Federal Reserve supports the market instead of being the market.
How to change financial regulation? Deregulation isn’t right — all that means is renewed risk. Instead, we need regulation that is both even-handed and equitable.
Equality-focused financial policy must have new rules aimed expressly at enhancing economic equality and racial equity. This doesn’t mean risky loopholes or quotas — it means understanding the unintended, anti-equality impact of existing rules and removing them wherever possible.
How specifically to do so? I propose an array of options, among them plans for a new financial charter establishing institutions — I call them Equality Banks — under strict charters granting them regulatory flexibility as long as they act in a fiduciary capacity to provide real financial inclusion.
We also need new rules encouraging — not just de facto prohibiting — banks from making small-dollar mortgages, offering very short-term loans, and providing other essential financial products. Importantly, many lower-income families aren’t the deadbeats presumed by bank regulation and housing standards. Even-handed, equitable rules thus can enhance sound credit availability across the income and wealth spectrum.
There’s also a role for the federal government. Limited postal banking and even a central-bank digital currency may be of equal value, but only if we ensure data security and personal privacy — we don’t want to trade reliance on increasingly powerful giant financial and technology companies for a still more monolithic, uncompetitive government financial oligarchy.
Monetary and regulatory policy changes are already overdue. Even though the Fed said the U.S. economy was in a “good place” in 2019, almost 40 percent of Americans had less than a $400 cushion against financial catastrophe. The majority of Americans had more of a cushion, but only the top 10 percent could have managed day-to-day consumption and debt payments without trillions in federal assistance.
We won’t need such giant payments or such huge Fed financial facilities if, the next time the economy comes under severe stress — and there will be a next time — monetary policy promotes through-the-cycle stability and the majority of American households have savings and manageable debt burdens.
In short, we need to slow down the inequality engine, using financial-policy tools to put it into reverse. If we don’t change course quickly, then another crash is certain even as family financial insecurity and political polarization get worse.