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In This Economy?

How Money & Markets Really Work

Foreword by Morgan Housel
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“Few people can communicate how the economy actually works better than Kyla Scanlon.”—Morgan Housel, author of The Psychology of Money

An illustrated guide to the mad math and terrible terminology of economics, from one of the internet’s favorite financial educators

Is our national debt really a threat? What is a “mild” recession, exactly? If you’re worried about your bank account balance, job security, or mortgage rate, what data should you be keeping tabs on? 

For anyone trying to make sense of disorienting headlines, there’s no better interpreter than Kyla Scanlon. Through her trademark blend of witty illustrations, creative analogies, and insights from behavioral economics, literature, and philosophy, Scanlon breaks down everything you need to know about how money and markets really work. This indispensable handbook reveals the hidden forces driving key economic outcomes, the most common myths to steer clear of, and the dusty, outdated assumptions that constrain our political imagination, offering a bold new path to building a prosperous society that works for everyone.
Chapter 1

The Economic Kingdom

The person that turns over the most rocks wins the game. And that’s always been my philosophy. —Peter Lynch

When I was younger, I loved to play a game called “The Princess and the Kingdom.”

My brother and I would build fantastical lands with our toys, complete with castles, moats, and tiny LEGO armies that really hurt if you accidentally stepped on them with your bare feet.

For me, empire building was the best part. How fruitful the land was, how protected the entrances were, what tools the people had access to—that’s what really determined how the game would play out.

The same holds for the financial infrastructure that’s woven through our lives, our very own Economic Kingdom.

Let’s start with the biggest castle: the monetary policy castle.

The Kingdom

The monetary policy castle is presided over by the Federal Reserve, which is supposed to be managing the entire kingdom.

We’ll get into the inner workings of the Fed soon, but for right now what you need to know is that the monetary policy castle is most directly in charge of two other castles: inflation (defined as a rise in prices that creates a decrease in purchasing power, something we are all familiar with) and the labor market (where we find critically important metrics such as the labor force participation rate, the quits rate, the unemployment rate, and more). As I dive deeper, I’ll describe how the Federal Reserve’s actions can have far-reaching effects on the economic well-being of the kingdom’s citizens, influencing their ability to afford goods and services and to find meaningful employment.

Each castle (such as the housing market, stock market, and bond market) has a moat around it that provides a little insulation. That’s why the Fed may fire a cannon (say, raising interest rates), and the cannonball might land without much of a hit—meaning that it really didn’t do much. In other cases, it might damage the drawbridge and make day-to-day functioning harder, or it might take out a squadron of an attacking army (such as unwanted inflation). The Federal Reserve is constantly firing cannons near all of those castles in an attempt to exert control over the empire.

Near is an important part of that sentence because the Fed cannon can occasionally make direct hits—but the castles are pretty strong, and it’s hard to take them down easily. Sometimes, the Fed simply doesn’t have enough (or the right kind of) ammo to directly hit them. Unlike my Princess and the Kingdom game, where castles could be knocked down chessboard style, there are too many variables influencing the Economic Kingdom for “I hit this and there are direct consequences” to work.

More on all this later, but contractionary monetary policy is the Fed’s way of putting the brakes on the economy. Hiking interest rates—their major tool for fighting inflation—makes borrowing money more expensive, which cools down demand for goods and services. On the flip side, expansionary monetary policy is the Fed’s way of speeding the economy up by cutting rates—no cannon fire, but more an injection of money into neighboring kingdoms.

The U.S. dollar castle is a “secret weapon” of the monetary policy castle because of the impact that the dollar has on the neighboring lands of developed and emerging markets. When the Fed uses its tool kit to strengthen the dollar—meaning that you can exchange it for more money in foreign countries—there are geopolitical consequences! For example, a strong U.S. dollar makes Chinese imports more expensive for American consumers and businesses—so Americans buy less stuff from China. As a result, Chinese goods become less competitive in the U.S. market, potentially leading to a decline in Chinese export revenues. Far-reaching impacts from the almighty dollar! Later on, I’ll walk through the intricate relationships between global currencies and the ways in which fluctuations in the dollar can influence trade, inflation rates, and especially geopolitical dynamics.

The commodity castle is another core part of the Economic Kingdom. Commodities are basic goods that are used by everyone: agricultural products such as cotton and wheat, energy products such as oil and gas, metals such as gold and silver, and more. They are the common denominator between everything that we interact with on a daily basis—the phones we carry, the clothes we wear, the food we eat, the cars we drive. If the commodity castle did not exist, neither would the Economic Kingdom. While it’s easy to downplay their significance in our daily lives, commodities play a vital role in shaping inflation, supply chains, and the overall economic health of the kingdom.

The Economic Kingdom reflects one of the harshest forms of reality, because what’s going on there really, really matters and is also really difficult to predict or control. A significant decline in the real value of the dollar could result in soaring prices of everyday necessities, causing financial hardships for families. The unpredictable and drastic fluctuations in the housing market could lead to a housing crisis, leaving many people without a stable place to call home. The turbulent movements of stocks in the market could wipe out people’s life savings, affecting their retirement plans and future well-being.

Policymakers typically measure the prosperity of the Economic Kingdom through the gross domestic product, or GDP, the total value of all goods and services produced in an economy. Nations around the world fixate on getting that number to climb. GDP is one of several key metrics that influence the directions in which the monetary policy castle fires its influential cannon (and isn’t a great measure because it doesn’t really capture anything beyond spending). Later on, I’ll explore other metrics that provide a more comprehensive understanding of the kingdom’s health and well-being.

As unscientific as it may sound, our vibes—our collective feelings about the economy—hold a surprising amount of power over outcomes.

Vibes Are the Economy

You might scoff and say “Vibes? I haven’t had an emotion in years,” but consumer sentiment—more holistically, our vibes—not only affects how much we borrow, spend, save, and earn but also moves the needle on food prices, gas prices, shelter costs, wages, and more.

Frenzied stock market rallies can stoke irrational optimism, and grim headlines can stoke worry and uncertainty. It’s not data alone informing our gut feelings about the state of the economy. If people have an experience (say, living through the 2008 recession) and evidence (home prices skyrocketing), that might shape their interpretation (“Another unprecedented event to live through!”), which shapes their expectations (“Things are starting to suck, and I think they’re going to start sucking a lot more”), which shapes their behavior (“I’d better ask for a raise at my next performance review”), which shapes company behavior (“We need to raise prices to keep pace with these increased labor costs”), which shapes Fed policy (“We need to slow down inflation, so we’re going to hike interest rates by seventy-five basis points”).

Then of course, there are downstream consequences to the Fed hiking and implementing contractionary monetary policy—things slow down, people don’t spend as much, businesses don’t make as much money, some people lose their jobs. That’s how rate hikes can put people out of work. But rate cuts (expansionary monetary policy) do the opposite—more money flowing around, more hiring activity. Usually. Of course, this is the economy—and no one really knows what will happen. The Fed did one of their largest rate-hike cycles in years during the early 2020s, and the labor market improved!

The big-picture takeaway is that a lot of the policy that influences the Economic Kingdom is based on theory, on the past, on what-has-already-happened-so-it-will-happen-again-ism—including some people advocating that we return to the gold standard even if it isn’t suitable in the current economic conditions.

The U.S. government tends to have outdated regulations, inflexible and rigid implementation, limited policymaker engagement with the policies they set, one-size-fits-all solutions, ignorance of technological advancement, and few to no feedback mechanisms. Everything takes a long time to fix, and sometimes it’s too late to fix it. Edgehill, a neighborhood in Nashville, is a key example of the housing crisis, which is caused by misaligned local zoning regulations, little change in zoning regulations, and little interest in fixing the situation. Edgehill went from 86 percent Black population in 2000 to 14 percent by 2020, according to the U.S. Census. A lot of it was due to rising home prices and the loss of old, naturally affordable housing units, as well as low-density zoning (which doesn’t allow more affordable multifamily homes to be built).

As Ursula K. Le Guin wrote in Tales from Earthsea: Dragonfly, “What goes too long unchanged destroys itself. The forest is forever because it dies and dies and so lives.”
© Alex Colorito
KYLA SCANLON is an economic commentator and Bloomberg contributor specializing in human-centric analysis that demystifies the complex. She started her career as a car salesperson before becoming an associate at Capital Group, conducting macroeconomic analysis and modeling investment strategies. View titles by Kyla Scanlon

About

“Few people can communicate how the economy actually works better than Kyla Scanlon.”—Morgan Housel, author of The Psychology of Money

An illustrated guide to the mad math and terrible terminology of economics, from one of the internet’s favorite financial educators

Is our national debt really a threat? What is a “mild” recession, exactly? If you’re worried about your bank account balance, job security, or mortgage rate, what data should you be keeping tabs on? 

For anyone trying to make sense of disorienting headlines, there’s no better interpreter than Kyla Scanlon. Through her trademark blend of witty illustrations, creative analogies, and insights from behavioral economics, literature, and philosophy, Scanlon breaks down everything you need to know about how money and markets really work. This indispensable handbook reveals the hidden forces driving key economic outcomes, the most common myths to steer clear of, and the dusty, outdated assumptions that constrain our political imagination, offering a bold new path to building a prosperous society that works for everyone.

Excerpt

Chapter 1

The Economic Kingdom

The person that turns over the most rocks wins the game. And that’s always been my philosophy. —Peter Lynch

When I was younger, I loved to play a game called “The Princess and the Kingdom.”

My brother and I would build fantastical lands with our toys, complete with castles, moats, and tiny LEGO armies that really hurt if you accidentally stepped on them with your bare feet.

For me, empire building was the best part. How fruitful the land was, how protected the entrances were, what tools the people had access to—that’s what really determined how the game would play out.

The same holds for the financial infrastructure that’s woven through our lives, our very own Economic Kingdom.

Let’s start with the biggest castle: the monetary policy castle.

The Kingdom

The monetary policy castle is presided over by the Federal Reserve, which is supposed to be managing the entire kingdom.

We’ll get into the inner workings of the Fed soon, but for right now what you need to know is that the monetary policy castle is most directly in charge of two other castles: inflation (defined as a rise in prices that creates a decrease in purchasing power, something we are all familiar with) and the labor market (where we find critically important metrics such as the labor force participation rate, the quits rate, the unemployment rate, and more). As I dive deeper, I’ll describe how the Federal Reserve’s actions can have far-reaching effects on the economic well-being of the kingdom’s citizens, influencing their ability to afford goods and services and to find meaningful employment.

Each castle (such as the housing market, stock market, and bond market) has a moat around it that provides a little insulation. That’s why the Fed may fire a cannon (say, raising interest rates), and the cannonball might land without much of a hit—meaning that it really didn’t do much. In other cases, it might damage the drawbridge and make day-to-day functioning harder, or it might take out a squadron of an attacking army (such as unwanted inflation). The Federal Reserve is constantly firing cannons near all of those castles in an attempt to exert control over the empire.

Near is an important part of that sentence because the Fed cannon can occasionally make direct hits—but the castles are pretty strong, and it’s hard to take them down easily. Sometimes, the Fed simply doesn’t have enough (or the right kind of) ammo to directly hit them. Unlike my Princess and the Kingdom game, where castles could be knocked down chessboard style, there are too many variables influencing the Economic Kingdom for “I hit this and there are direct consequences” to work.

More on all this later, but contractionary monetary policy is the Fed’s way of putting the brakes on the economy. Hiking interest rates—their major tool for fighting inflation—makes borrowing money more expensive, which cools down demand for goods and services. On the flip side, expansionary monetary policy is the Fed’s way of speeding the economy up by cutting rates—no cannon fire, but more an injection of money into neighboring kingdoms.

The U.S. dollar castle is a “secret weapon” of the monetary policy castle because of the impact that the dollar has on the neighboring lands of developed and emerging markets. When the Fed uses its tool kit to strengthen the dollar—meaning that you can exchange it for more money in foreign countries—there are geopolitical consequences! For example, a strong U.S. dollar makes Chinese imports more expensive for American consumers and businesses—so Americans buy less stuff from China. As a result, Chinese goods become less competitive in the U.S. market, potentially leading to a decline in Chinese export revenues. Far-reaching impacts from the almighty dollar! Later on, I’ll walk through the intricate relationships between global currencies and the ways in which fluctuations in the dollar can influence trade, inflation rates, and especially geopolitical dynamics.

The commodity castle is another core part of the Economic Kingdom. Commodities are basic goods that are used by everyone: agricultural products such as cotton and wheat, energy products such as oil and gas, metals such as gold and silver, and more. They are the common denominator between everything that we interact with on a daily basis—the phones we carry, the clothes we wear, the food we eat, the cars we drive. If the commodity castle did not exist, neither would the Economic Kingdom. While it’s easy to downplay their significance in our daily lives, commodities play a vital role in shaping inflation, supply chains, and the overall economic health of the kingdom.

The Economic Kingdom reflects one of the harshest forms of reality, because what’s going on there really, really matters and is also really difficult to predict or control. A significant decline in the real value of the dollar could result in soaring prices of everyday necessities, causing financial hardships for families. The unpredictable and drastic fluctuations in the housing market could lead to a housing crisis, leaving many people without a stable place to call home. The turbulent movements of stocks in the market could wipe out people’s life savings, affecting their retirement plans and future well-being.

Policymakers typically measure the prosperity of the Economic Kingdom through the gross domestic product, or GDP, the total value of all goods and services produced in an economy. Nations around the world fixate on getting that number to climb. GDP is one of several key metrics that influence the directions in which the monetary policy castle fires its influential cannon (and isn’t a great measure because it doesn’t really capture anything beyond spending). Later on, I’ll explore other metrics that provide a more comprehensive understanding of the kingdom’s health and well-being.

As unscientific as it may sound, our vibes—our collective feelings about the economy—hold a surprising amount of power over outcomes.

Vibes Are the Economy

You might scoff and say “Vibes? I haven’t had an emotion in years,” but consumer sentiment—more holistically, our vibes—not only affects how much we borrow, spend, save, and earn but also moves the needle on food prices, gas prices, shelter costs, wages, and more.

Frenzied stock market rallies can stoke irrational optimism, and grim headlines can stoke worry and uncertainty. It’s not data alone informing our gut feelings about the state of the economy. If people have an experience (say, living through the 2008 recession) and evidence (home prices skyrocketing), that might shape their interpretation (“Another unprecedented event to live through!”), which shapes their expectations (“Things are starting to suck, and I think they’re going to start sucking a lot more”), which shapes their behavior (“I’d better ask for a raise at my next performance review”), which shapes company behavior (“We need to raise prices to keep pace with these increased labor costs”), which shapes Fed policy (“We need to slow down inflation, so we’re going to hike interest rates by seventy-five basis points”).

Then of course, there are downstream consequences to the Fed hiking and implementing contractionary monetary policy—things slow down, people don’t spend as much, businesses don’t make as much money, some people lose their jobs. That’s how rate hikes can put people out of work. But rate cuts (expansionary monetary policy) do the opposite—more money flowing around, more hiring activity. Usually. Of course, this is the economy—and no one really knows what will happen. The Fed did one of their largest rate-hike cycles in years during the early 2020s, and the labor market improved!

The big-picture takeaway is that a lot of the policy that influences the Economic Kingdom is based on theory, on the past, on what-has-already-happened-so-it-will-happen-again-ism—including some people advocating that we return to the gold standard even if it isn’t suitable in the current economic conditions.

The U.S. government tends to have outdated regulations, inflexible and rigid implementation, limited policymaker engagement with the policies they set, one-size-fits-all solutions, ignorance of technological advancement, and few to no feedback mechanisms. Everything takes a long time to fix, and sometimes it’s too late to fix it. Edgehill, a neighborhood in Nashville, is a key example of the housing crisis, which is caused by misaligned local zoning regulations, little change in zoning regulations, and little interest in fixing the situation. Edgehill went from 86 percent Black population in 2000 to 14 percent by 2020, according to the U.S. Census. A lot of it was due to rising home prices and the loss of old, naturally affordable housing units, as well as low-density zoning (which doesn’t allow more affordable multifamily homes to be built).

As Ursula K. Le Guin wrote in Tales from Earthsea: Dragonfly, “What goes too long unchanged destroys itself. The forest is forever because it dies and dies and so lives.”

Author

© Alex Colorito
KYLA SCANLON is an economic commentator and Bloomberg contributor specializing in human-centric analysis that demystifies the complex. She started her career as a car salesperson before becoming an associate at Capital Group, conducting macroeconomic analysis and modeling investment strategies. View titles by Kyla Scanlon