How Well Has The Fed Managed Its Dual Mandate?

When the Federal Reserve Act was passed in 1913, $1 could buy what today would cost about $30 - $35 of goods and services.  Put differently, the dollar has lost about 96 - 97% of its purchasing power since its inception.  So, today’s dollar purchases about 3 cents worth of goods and services as compared to 1913.

Not exactly a stellar record of Central Bank management.

Now, the Fed would argue that this erosion of the dollar’s value is intentional and necessary (a strawman argument).  They say a modest level of inflation encourages spending and investment instead of hoarding cash.  In other words, the Fed intentionally forces Americans to spend money today with the promise that their hard-earned money will be worth less in real terms in the future.  So, buy now because the price will be higher next month, and in fact, forever.

But is it the job of the Federal Reserve to discourage saving versus current consumption?  To my knowledge, this isn’t one of the two mandates of the Fed.  But that’s not the worst part of Fed policies.

Take, for example, the Fed’s disastrous policy called The Wealth Effect.  This single policy, by the way, single-handedly destroys the idea of Fed independence.  There’s an old saying to “follow the money” to see who most benefits from some sort of policy.  Let’s look at the results of the policy wherein this policy ONLY benefits the top 10% of U.S. households to the detriment of the other 90% of Americans.  Fed independence is a myth…

So, what is the Wealth Effect?

Since the 1990s, the Federal Reserve has implicitly relied on the wealth effect as a channel to stimulate growth. By keeping interest rates low and providing ample liquidity, the Fed has encouraged higher asset prices in equities, housing, and bonds.  The idea is straightforward: if households feel wealthier, they will spend more, creating a self-reinforcing boost to the economy.  While this strategy has often succeeded in stimulating demand, its long-term consequences have proven more damaging than beneficial.

Asset Bubbles and Market Distortions

The most visible damage has been the inflation of asset bubbles.  Low interest rates and repeated rounds of quantitative easing after the 2008 crisis pushed investors into riskier assets, fueling unsustainable valuations in stocks, real estate, and corporate debt.  For example, the housing bubble of the mid-2000s, in part facilitated by accommodative monetary policy, created systemic vulnerabilities that culminated in the global financial crisis.  Similarly, in the 2010s and early 2020s, ultra-loose policy helped propel the S&P 500 to record highs, often divorced from underlying earnings growth.  When these bubbles deflate - as they inevitably do - the fallout erodes wealth, undermines consumer confidence, and destabilizes the broader financial system.

The Wealth Effect Concentrates Wealth

The wealth effect also exacerbates inequality and concentrates wealth disproportionately into households that already own significant financial assets.  Currently, the top 10% of U.S. households own nearly 90% of equities, meaning Fed-induced asset inflation largely enriches the wealthy.  Meanwhile, wage growth for lower- and middle-income households has lagged, and the cost of essentials such as housing has soared. By fueling asset appreciation without a corresponding rise in incomes, the Fed has contributed to a widening wealth gap, eroding social mobility and political cohesion.

The Wealth Effect Distorts Risk-Taking and Moral Hazard

Persistent reliance on the wealth effect has encouraged excessive risk-taking and moral hazard*. Investors have come to expect the Fed to intervene whenever markets stumble, a phenomenon dubbed the “Fed put.”  This implicit backstop reduces discipline in financial markets, allowing overleveraged companies and speculative investors to survive on cheap credit.  Over time, such behavior undermines the efficient allocation of capital and leaves the financial system more fragile.

The Wealth Effect Adds Inflationary Pressures

The wealth effect policy has also contributed to inflationary pressures.  When rising asset values spur higher consumer spending, demand often outpaces supply, especially in sectors with production bottlenecks.  The post-pandemic surge in prices during 2021–2022 was amplified by years of aggressive monetary easing and asset-price inflation, which encouraged consumption at unsustainable levels.  Once inflation became entrenched, the Fed was forced to tighten aggressively, risking recession to undo the damage of its earlier policies.

The Wealth Effect Erodes Policy Credibility

Finally, reliance on the wealth effect has undermined the Fed’s credibility. When monetary policy is seen as catering to financial markets rather than the real economy, public trust erodes. Economists can make an easy case that the Fed has become overly focused on supporting asset prices instead of ensuring stable employment and price stability - the dual mandate Congress originally set.  This perception weakens confidence in the institution and complicates future policy effectiveness, and has left the American economy more fragile, more unequal, and much more vulnerable to economic crises.  

*Moral hazard describes situations where individuals or entities change their behavior and take more risks because taxpayers will bear the costs of those risks.

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