The Radical Reshaping Of The American Economy, As Told By A Kansas City Dissident

"He said the Federal Reserve had printed 350 years' worth of money in about four and a half years," Leonard said. "And that this 'quantitative easing,' as the Fed called it, had completely distorted America's financial markets, widened the gap between the rich and everybody else in this country, and essentially forced banks to make riskier and riskier loans that were imperiling the entire economy."

The conversation started Leonard off on a reporting path that would lead back to his hometown of Kansas City. A graduate of Pembroke Hill and the University of Missouri School of Journalism, Leonard was then living in Washington, D.C. But he'd had good luck reporting in the Midwest.

In 2014, after stints as a business reporter for the Arkansas Democrat-Gazette and the Associated Press, he published "The Meat Racket: The Secret Takeover of America's Food Business in 2014," which took readers inside the chicken empire of Arkansas-based Tyson Foods. In 2019's "Kochland," Leonard penetrated the black box of Wichita's Koch Industries, one of the largest privately held corporations on the planet.

Leonard didn't know very much about the Federal Reserve prior to that conversation with the bond trader. So he educated himself and soon learned that what he'd been told was correct: After the global financial crisis of 2008, the Federal Reserve had embarked on what is essentially a grand experiment on the American economy, dumping trillions of dollars into the big banks while keeping interest rates at zero.

"And one of the first things I learned was that the most consequential vote the Fed took to go down this path of unrestrained money printing and zero percent interest rates was taken in 2010, and the vote was 11 to 1," Leonard said. "And the person who voted against it was Tom Hoenig, who lives in Brookside, about four blocks from where I grew up."

Hoenig, the former president of the Kansas City Federal Reserve, ended up as one of the central characters in Leonard's new book, "The Lords of Easy Money: How the Federal Reserve Broke the American Economy." It is a book to read if you have ever wondered why the stock market boomed during a pandemic, or why corporations drowning in debt have puzzlingly high valuations, or why home prices have surged to a level that has made them out of reach for most Americans. The responsibility for these and other destabilizing developments in the U.S. economy, Leonard argues, lies squarely at the feet of the Fed.

Leonard moved back to the Kansas City area last year. He lives with his family in Prairie Village and is the director of the Watchdog Writers Group, a Mizzou-based nonprofit journalism institute that produces books and investigative reporting. He spoke to The Star this past week no less than an hour after returning from the dentist, where he'd received an unexpected root canal. "Half of my face is numb," he said, "but I promise I have full mental acuity."

This interview has been condensed and edited for clarity.

Q: So as not to scare off readers, I am trying to avoid saying "quantitative easing." As you write in the book, it's an intentionally opaque name for a program that's not actually that complex. Can you give a quick overview of what it is?

A: Yes. The Federal Reserve has one superpower. It is the only institution on earth that can create new dollars out of thin air. That's why it exists — to create and manage our currency, the dollar. QE at its root is just an experimental program that the Federal Reserve used to create money at a scale and pace at which it had never done before.

The Fed can only create money inside the bank accounts of 24 institutions on Wall Street. JP Morgan, Goldman Sachs, other names you'd recognize. How that works is, the Fed calls up JP Morgan and says, "We want to buy $8 billion in mortgage bonds from you." And JP Morgan says OK, and they sell them the mortgage bonds. Then the Fed says, "Look in your account," and $8 billion new dollars are in there.

With QE, the fed replicates that transaction over and over until there's billions and now trillions of new dollars in these Wall Street bank accounts.

Why do that?

Well, at the same time that the Fed began doing this, after the global financial crisis, it also set interest rates at zero, which is extraordinary. The Fed kept interest rates at zero for seven years during the 2010s. When interest rates are at zero, a bank can't earn any money by saving. So the idea was, this combination of low interest rates and pumping all this money into the banks would force banks to lend money to people and businesses that would stimulate growth in the economy and create new jobs. And that would heat up the economy and get things back on track.

What are some examples in the economy where you see the effect of this policy?

Asset prices: things people invest in, like tech stocks, commercial real estate, corporate bonds. Because you have all these people saying, "Well, I can't make any returns by saving my money, I might as well take a risk on this Tesla stock at a super-high price because it beats the low yield I get on super-safe savings." So this search for yield effectively pushes all this money out into the system to fund riskier and riskier assets and debt instruments.

Take the example of CALPERS, which is the huge pension fund for public retirees in California. It has billions of dollars in assets and the fund's managers have to figure out where to invest it to earn money. Before, it could have met all its obligations by simply investing in super-safe Treasury bills. But when rates are at zero, that won't cut it. So now we are seeing huge pension funds that used to be very conservative finding themselves having to invest in things like corporate junk debt and fracking wells — stuff that used to be the domain of risky speculators on Wall Street. And all this stuff, all this new risk in the system, Tom Hoenig was warning about this a decade ago, and he was shouted down and marginalized and squeezed to the periphery of power for it.

Can you talk a little about Tom Hoenig, and why you thought he was a good vehicle for telling this story?

Yes. There were really two reasons. One is that through his career, you can kind of tell the story of the modern day Federal Reserve. He joins the Fed in 1972, rises through the ranks and becomes president of the Kansas City Fed in 1991, and serves on the FOMC through 2011. (The Federal Open Market Committee is the Fed's deliberative body, which votes on monetary policy.) So he saw up close all these important moments and was at the center of all these consequential debates.

But I also just thought his story was really compelling. This is a small-c conservative guy who I would describe as a Dwight Eisenhower Republican — meaning a sort of pragmatic guy who believes in the power of markets but also in the power of government to regulate those markets, and trying to find that uneasy balance between those two forces defined his career. He embodies a political tradition that is, frankly, dead in America: the pragmatic conservative.

His reputation among economists was not great when you started reporting this book. As you write, the FOMC prefers to present a unified front through unanimous votes, and he was the only public dissenter on several decisions after the 2008 crash.

Early on, I remember talking to a conservative, right-wing guy from the American Enterprise Institute at a cocktail party. I brought up Hoenig, and he said, "Oh, he's a crank, an inflation hawk, he voted against quantitative easing because he was obsessed with hyperinflation, which never came." And then not long after that I remember talking to a pretty liberal financial journalist in New York who said essentially the same thing: He's a crank, a reflexive dissenter.

But I figured I'd interview him anyway. And I quickly discovered the caricature around this guy was dead wrong. He'd gone along with the emergency bailouts in 2008 and 2009 and voted consistently with the rest of the committee for 20 years. I went back and read through all the transcripts of the policy discussions inside the Fed at that time. The transcripts aren't released until five years after the meetings, and because of that they're rarely written about.

But when I read these discussions I saw that Hoenig wasn't making the argument that people at the time said he was. He did worry about price inflation and brought it up occasionally. But what he was really saying was that if we keep interest rates at zero, and pump hundreds of billions of dollars into Wall Street banks, we're allocating money toward the richest of the rich, because that's who owns assets in this country. He wasn't worried about inflation. He was worried about asset bubbles. Which is a very different argument!

One big effect of the Fed's policies over the last decade is that the corporate debt market has ballooned, which has brought what you call "a new and troubling term into corporate America's lexicon: the 'zombie company.'" Can you explain zombie companies? Some of them are big-name, blue-chip companies, like Exxon, Delta, and Boeing.

So, when I take on debt with a credit card, I make monthly payments to pay down the principal of the debt along with the interest. If I keep paying, my loan eventually disappears. But corporate debt doesn't work like that. If you're a company, you borrow the money, and you make regular payments only for the interest you owe. Then, at the end of the loan, you pay back the full amount. So a company that borrows a billion dollars, at the end of the term of the loan, it has to either pay the lender a billion dollars or do what they call "rolling over" the debt. Which means the original debt is sold before it comes due and replaced with a new loan. This can go on for years. And if interest rates are low, it's not that big of a deal. But when rates rise, these companies face a really bad choice of either taking on a much more expensive loan because rates are higher, or paying the full amount.

A zombie company is a company that has taken on so much corporate debt that its total profits don't even cover its interest costs, let alone the underlying debt due at the end of the loan. And we have seen a dramatic increase of zombie companies in America in recent years, all of which are the direct result of Fed policies that make this sort of behavior logical. The proliferation of zombie companies has made corporate debt markets extraordinarily fragile and unstable, very similar to the home loan market in the 2000s. The market for corporate debt in the 2010s was like the market for home loans in the 2000s. It was characterized by an almost pathological optimism, sloppy underwriting, a blind eye to risk, and a seemingly never-ending flow of new money to be lent.

Can you talk about how the Fed responded to COVID?

When COVID hit, in March 2020, we saw a home loan-like crisis break out in the corporate debt markets. It was a financial crisis worse than the one in 2008. But the difference was that this time the Fed stepped in more rapidly and with a much larger intervention and instantly bailed out these risky corporate loans it had incentivized over the last decade.

A lot of this corporate debt is in the form of leveraged loans, which get packaged and resold just like home loans used to. In 2008, there were CDOs: collateralized debt obligations. In 2020, we had CLOs: collateralized loan obligations. It's the exact same thing. Wall Street securitizes and bundles up these corporate loans in the same way they did with mortgages. And when COVID hit, everybody knew these corporate loans would go bust, which meant the CLOs would fail, which meant that the banks that owned the CLOs would be put into terrible shape. And it would create economic carnage the government wasn't willing to accept.

And that's exactly what started to happen in March 2020, at which point the Fed stepped in and directly bought up all this corporate junk debt and the securitized form of this junk debt in the form of the CLOs.

If the Fed keeps bailing out these corporate loans, can these zombie companies live forever? Are they, in a sense, too big to fail?

The honest answer is: Who knows? The subtitle of my book is "How the Fed Broke the American Economy." I'm aware of how provocative that is. But one key thing I really try to emphasize in the book is how much fragility the Fed has put into our economy. If interest rates ever rise and the game of musical chairs of rolling over corporate debt comes to an end, the results will be catastrophic.

But now we are at a moment where the Fed has said interest rates are going to rise, because of price inflation, which we didn't see over the last decade but which rose 7% last year, the most since 1982. So, what do you foresee?

The old way of thinking about the Fed was pretty simple. When the economy needs some juice, the Fed cuts interest rates, which increases lending and hopefully stimulates growth and job creation. And then when you start to see inflation, the Fed raises interest rates, which pumps the brakes on the economy and everything slows down.

That model is out the window. Since the 2008 crisis, the Fed has swollen the size of its footprint in our economy from $2 trillion to $9 trillion. That's how much new money it has printed and pumped into the banks. The old tools of raising or lowering interest rates don't work the same way when you've got all this new cash pumped into the system.

The Fed has had the luxury to engage in these experiments in money printing because we haven't seen inflation. But now the bill is coming due. The Fed has tried to create growth by increasing levels of debt for households, governments, corporations; by stoking risky investments in tech stocks, third world debt, all kinds of things. It has been pumping up markets with easy money for a decade. And if it has to tighten because of rising inflation, the markets will react the way they have in the past. To speak in really plain English, it could cause the markets to crash.

I was going to ask what scares you most after researching and reporting this book. I assume it's that — a market crash.

I am really concerned about what another crash would mean for the American worker. Our population is stretched to the limit. The American worker has been through a lot over the last 20 years. So much is asked of wage earners. Prices are rising, the complexity and cost of health care and insurance is rising. Both parents are working, then both parents are working more, then more costs of life are going onto credit cards: groceries, health care, child care, utility bills. People can only take so much. When you have a situation where the gap between the rich and everybody else just keeps getting wider and wider, and you throw a market crash on top of that where companies are laying people off ... I don't know. You start to really worry about social stability in this country.

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