Richmond Fed President Tom Barkin

Until I got to the Fed, I knew that 1918 was the end of World War I. I will say when this COVID thing hit, I went back and read a bunch of books on 1918. There's a great one by John Barry called The Great Influenza which talks about what happened. And in that book, you hear about the waves of COVID. There was wave one, then it went down, and wave two, and wave three. That was pretty instructive because you could argue we've been through those three waves here. Hopefully we won't have a fourth and a fifth. I then went and bought a book about the 1920s because after the great influenza came the roaring 20s. What's interesting is there was a little-known problem we had in 21-22 where the economy fell off a cliff at the end of it, and then it came back to the roaring 20s. So you try to learn the lessons of the past to steer so you don't have the same issues. But it is interesting what parts of history we remember and what we don't.

We all went through the same experience. In my case, my daughter called on Sunday and said, 'I think they're going to cancel college this week.' We said, 'Shut up, you're being dramatic.' Then on Wednesday, they canceled it. Being college students, there was one really large Wednesday night party before the NBA canceled everything on Thursday. A super spreader event. On Friday, Jay called around all the presidents and said, 'I think we're going to have to have a conversation here.' So instead of picking her up Saturday, my wife went and met her. We had a weekend meeting where we decided to take rates down to zero and do a significant bond buying program. I'll give Jay and others full credit for seeing what was going on. A week and a half earlier, on March 3rd, Jay had come back from a conference in Switzerland, called around, and said, 'I think we need to take rates down.' So we had an emergency meeting that Monday night and took rates down 50 basis points. That was a surprise. Then on March 12th or 13th, the NBA shutdown, and that weekend we put all our cards on the table.

I don't think it was any of those. China had shut down in January and February. The question was not whether there was a pandemic in China, but what the spread would be. We didn't have a lot of testing, but you started to see real spread in the first two weeks of March, first in Washington at that nursing home, then in California, and then the new relation. The cases just started to multiply. The NBA was another signal that this thing had gone beyond. With colleges shutting down, it hit us in force, and we decided to use our tools to the maximum extent possible.

We used the normal tools, taking rates to zero quickly. Then there were extraordinary tools. Markets had frozen up, not just opaque markets, but the Treasury market and mortgage-backed markets. There was a significant flight to safety where people were selling whatever they had and just wanted cash and Treasuries. When bid-ask spreads in the US Treasury market went to a certain level, we said we had to do something to make those markets work. So we started buying Treasuries and mortgage-backed securities in significant proportions to bring those markets back, which happened over the next couple of weeks.

There have been three phases. During Ben Bernanke's time, quantitative easing was intended to buy Treasuries and mortgage backs to bring longer rates down. What we started doing in March 2020 was not with that spirit. Many of those purchases were short-term, actually to make markets function. The basic market for Treasuries was not functioning. When something goes wrong globally, people pile into US Treasuries as a safe haven. If buyers want to buy but sellers don't want to sell, that's a market that doesn't function. There's research into why it didn't function. Some suggest banks had liquidity thresholds, others that traders working from home didn't have approvals. But for whatever reason, it wasn't functioning. We could have spent weeks figuring out why, but we knew it wasn't functioning, so we did what we could. Then Congress passed the CARES Act, which authorized new facilities, including buying municipal bonds. Those facilities have all been closed now. But I talked to a double-A rated defense contractor that couldn't roll over their commercial paper. There were real issues with market functioning that aren't normal but were happening in March 2020.

Frozen is a very good word. People were frozen in place. They didn't want to buy other people's bonds because you didn't know what credit risk you were taking. Just 18 months ago, the economy shut down. That was a concept none of us could process. You didn't know where we were going from there, so why would people buy bonds in an institution where they had no confidence in tomorrow?

We also went home and went to work. We didn't go straight to Zoom because it had security issues we weren't comfortable with. We used our own video platforms. I'd love to say every call was beautiful, but we had the same issues everyone else did. I'm proud of our technology team because we made the shift quickly. They did a significant proactive continuous improvement bandwidth effort. Compared to corporate institutions I talked to, ours was more seamless. A lot of it had to do with getting more bandwidth to people and educating users, because most errors are user errors. We made it work. We haven't had an in-person FOMC meeting since January 2020. We've made it work, but I'm not a believer that it works exactly as well. There's something about reading body language, walking out of a meeting and having a debrief, knowing if somebody's having a bad day. You just don't figure that out on Zoom. So we made it work, but that's where I put it.

Rates went down to zero in 2001, came up to about 4.5% by 2008, then went down to zero in the global financial crisis, came back up to roughly 2.5% in 2018, and now they're back to zero. Rates are a lot lower than they used to be. People ask me why. If you think inflation is going to be 14%, you demand a higher rate. If you think inflation is going to be 2%, as it has been for the last 25 years, you demand a lower rate. The lack of inflation and uncertainty about inflation has brought rates down a ton. The other piece is the core productive capacity of the US economy. Population growth was higher in the 90s than today. Productivity growth was higher in the 90s than today. The analogy I like is a car: when you don't have your foot on the gas, how fast is it going to go? In our economy and the global economy, that's a slower number than it was 20, 30, 40 years ago. Both of those have brought interest rates down.

As long as inflation is controlled, savers have done fine. Your 14% memory of the late 70s is offset by very significant inflation. While rates have been low, if you had a money market account in 2018, you'd have gotten 2%, and inflation was basically 1.9%. The risk is low rates and high inflation. That's what you want to avoid.

It's a great question. Businesses think of inflation as increased costs. We look at inflation in terms of prices. If prices don't get passed through, that's not inflation for a consumer. Most consumers think about food and energy, but core metrics take out those volatile figures. The biggest confusion right now is the difference between a one-time price increase and persistent price increases. There's no doubt we've had a one-time price increase this year. That is inflation. But when people say we're not yet sure we've moved to an inflationary regime, they mean they're not sure inflation will persist year after year. The question is whether this year's inflation, driven by supply chain problems and the return to normal, will persist. That's what we're charged with investigating.

That was the 70s. We had Great Society spending, Vietnam war spending, the US leaving the gold standard, OPEC, wage and price controls that created a big bow wave of inflation. A significant part of the economy was union-dominated with long-term pattern bargaining, and prices were indexed to CPI. Airlines, trucking, railroads were all regulated. You had huge parts of the economy that were indexed, and pressures that drove ever-spiraling inflation. A lot of that has been unlocked.

We'll have to see how it plays out. Our economy has been beset by unpredictable variables at levels hard to remember: COVID up and down, stimulus, a vaccine we didn't know would work, then it worked but not everyone took it, the delta variant. It's been shock after shock. Firms have struggled with production planning, so everybody is short on supplies. Demand is elevated, influenced by stimulus, and the workforce is short. It's tough to go to work if your kids might get sent home from school. Some people don't want to take the risk of getting COVID. Businesses aren't investing to build more supply because who knows what the future looks like. That's driving prices up. This summer, 75% of it has been attributable to new cars, used cars, and rental cars affected by the chip shortage, and a return to normal in travel and hotels and restaurants. It's hard to imagine all that will affect the future. Now, with COVID down, kids back in school, and enhanced unemployment behind us, we're asking how long it will take for the five million workers on the sidelines to get back in. How are they making ends meet? There's still a lot of excess savings in people's pockets, from unemployment payments, stimulus checks, and because none of us spent the way we were on a path to spend. People have money in their pocket. The second thing is this conversation about reassessing your life. The segment that is down the most is working-class parents of kids under 10. Many are dual-career couples scraping to get by. If you think your kid might get sent home, they may choose to go on one income. Whether these things last is the big question. We are still five million workers down from 18 months ago. How many come back is key to whether we unlock the labor market and avoid wages going up the way you described.

After the great recession, developers weren't building many houses and banks weren't financing them. Supply didn't grow significantly. That was okay because demand didn't grow either, as millennials waited to get married, have kids, and buy houses. The market got a little more heated before the pandemic. But in the pandemic, there's no better way to understand the flaws of your house than to live in it 24 hours a day. People realized that in spades. Whether buying a second house or moving, demand elevated. People in studio apartments in big cities decided they wanted a place to work. Millennials are getting older; the oldest are now 40 and ready to buy. Mortgage rates were low. So you saw a bunch of demand. At the same time, supply didn't grow because construction costs are elevated and you can't find construction workers. People who normally would sell and move into a nursing home weren't doing that in the pandemic. Demand elevated, supply down, that's a prescription for prices going up. I think demand will continue because millennials want houses, and with more people working remotely, they'll want more house. On the supply side, it's hard to find construction workers. Houses are going up, but not at the pace of 2004-2007. It'll take a while to catch up.

Okay. So, you have to take commercial real estate apart. Industrial and warehouse space is booming. Everybody's distribution centers, all the rest of that stuff. Multifamily still seems to be doing fine, particularly outside of the 10 biggest cities in the country. And then retail, obviously, if you're next to a Home Depot or a Walmart, that retail space is doing fine. If you're talking downtown retail, that space is struggling and small retail is going to catch as catch can. Malls are obviously struggling. When you get to office space, we'll see. And that's what I put it. I mean, the office space is built. I don't think there's a ton of new office space coming on. I think that office space will be occupied. The question is at what price, right? And you're already seeing, I've talked to folks in a lot of small to medium towns saying they can't get any office space because people who've been working from home do need a space to go and so they're selling small parts of the office space to people who want, I'll call it home offices outside of the home. The downtown for sure every big employer, and we are too, is re-evaluating what percentage of people you want in the office or out of the office. Workers are evaluating the same thing. You're going to have organizations using less space. And so I do think that downtown commercial real estate's going to be challenged from a rent and price standpoint. But the question of any kind of systemic issue comes down to the question of how levered is that? Who owns it? Right? But I can tell you we've been through, with the banks, a pretty significant stress testing exercise over the last two or three years and they're pretty strong in terms of capital and we've put pretty negative assumptions on commercial real estate and they've withstood those.

Oh, no, no. You know, will there be people who will default on commercial real estate? Sure. Will there be people who move out of their building and leave it to somebody else? Sure. The nature of these things is you have an obligation for 10 or 15 years, right? And so, it'll take a while for that to come to pass or you put a particular property into bankruptcy. Those are going to happen. Economy is going to adjust. I mean, that's creative destruction. I thought your question was more about the system. And as best as I can tell, and we've certainly done this in the stress test, the banks are well capitalized against that particular issue.