Beware the Lure of Free Money

It can distort human behavior!

What is free money?

With interest rates at or near zero, or even below, who would not want to borrow all they could? And, if it is offered with no conditions, or anything else in exchange, to people in general simply because they need it through no fault of theirs, they would be fools not to take their share.

To be certain, economic stimulus plays a vital role in moments of crisis, propping up markets and offsetting a decline in consumer activity to help businesses ride out the storm. But deficit hawks hand out three trillion unfunded dollars for one reason, and one reason only: votes. If you were a candidate for President, or for either House of Congress, you’d be hard-pressed to pass up a deal that lets the US Treasury try to buy your votes with other people’s money. Even better, it’s perfectly legal!

The catch, obviously, is that free money isn’t free. It might be free to the recipient, but somehow, somewhere down the line, someone will pay an equal or greater price. Eventually, bills do come due.

There basically are only three ways the money ever will be paid back to either the Treasury or the Federal Reserve.

First, there is the possibility that the borrower/user will simply pay it back on time, or before it is even due, to ’clean up’ their balance sheet. But despite this extravagant support, some businesses are unlikely to survive the pandemic. Others will be left to pick up the tab. Even worse, in the case of direct stimulus checks to taxpayers and the Payroll Protection Program’s forgivable loans, no one yet is even asking how to get the money back!

Another possibility is that inflation will in due course effectively shrink the amount owed (which is fixed) while other assets presumably appreciate with inflation. This is the default result of inaction – and there may be no one in the country who believes that Congress is likely to act in a meaningful manner anytime soon.

Lastly is the possibility that exchange rates with other countries’ currencies will effectively decrease the value of the nominal amount originally issued. As the U.S. dollar increases in value, the cost of foreign money decreases. This is the most likely outcome but presupposes a level of economic activity and growth that spurs a rise in the dollar relative to other currencies.

In the short-term, free money  may appear to be a win-win-win: politicians curry favor with the people who will decide their fate; many people avoid calamity and are able to pay for housing, food and other necessities; and for everyone else we hope it buys the time to end the virus crisis before it completely destroys our economy.

The lure of free money should be clear.

The consequences are far less clear.

The political presumption is that it is far more desirable to buy time than to accept defeat prematurely, especially with an election looming. The practical reality is that, once again, the can has been kicked down the road – along with climate change and Middle East peace – for our grandkids to worry about.

Our grands will think we were just dumb or didn’t care.

We care a lot BUT were presented with circumstances, spelled T-R-U-M-P, that left us only two choices: to die rich or poor!

I know which I prefer.

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