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Bailout Nation: How Greed and Easy Money Corrupted Wall Street and Shook the World Economy by Aaron Task, Barry Ritholtz

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Chapter 9. The Mad Scramble for Yield

 

[The option ARM is] like the neutron bomb. It's going to kill all the people but leave the houses standing.

 
 --George McCarthy, housing economist, Ford Foundation

As we saw in prior chapters, Alan Greenspan's rate-cutting regime after the tech bubble burst was a radical departure from usual Federal Reserve policy. Starting in January 2001, the Fed began cutting rates—and kept cutting until they were at generational lows. The FOMC kept the federal fund rate at 1.75 percent or below from December 2001 to September 2004—nearly three years! This was unprecedented in FOMC history. Rates had never been kept so low for such an extended period of time.

Not only had this never happened before, it was previously unthinkable. And with good reason: Ultralow rates are an enormously irresponsible action on the part of a central bank. When money becomes that cheap, there are all manner of dire consequences. Rate cuts "reflated," then inflated the economy. But it did so at a horrific cost:

  • The U.S. dollar plummeted in value. From 2001 to 2008, the greenback lost nearly 40 percent of its purchasing power.

  • As the dollar tumbled, anything that was globally priced in U.S. dollars, including oil, gold, industrial metals, foodstuffs—in fact, most commodities—rallied dramatically in price. It still cost the same amount to produce/grow/mine these items, only the money used to buy 'em was worth only half as much.

  • The sole exception to this massive inflation trade was labor ...

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