ONCE AGAIN, FED TAKES THE EASY WAY OUT

Stocks soared higher this week and interest rates dropped on news that the Fed has decided to continue its Quantitative Easing (QE) policy after declaring in June that the practice would come to an end in the fall.

What is Quantitative Easing?  In short, it’s a commitment from the Federal Reserve to be the primary purchaser of mortgage-backed securities from banks and private lenders. 

What does that mean?  It means that instead of the market determining what a fair return for a mortgage backed note will be, the Fed steps in and purchases mortgages at rates that are generally lower than what the private market would demand.

The net effect is lower interest rates and a significant increase in the money supply, since the Fed is basically dumping up to $1 trillion of QE capital into the money supply each year in exchange for mortgage notes (which might explain why gold prices have gone up over $500 per ounce since QE began in 2008).

The intention is to pump up economic activity through the housing market.  It’s been going on since the stock market crash and the Great Recession of 2008.  But while the housing market has moved firmly into recovery the mode (thanks in large part to QE), the rest of the economy has not.

Many fear – myself included – that this somewhat desperate move during the recession is becoming an accepted norm in US monetary policy.  Low rates and an increase in the money supply is like pouring gasoline on a struggling, soggy campfire (except the tiny campfire, otherwise known as the post-recession US economy, is barely flaring at all).

I am very much of the belief that the post-2008 economy in the United States brings with it a series of harsh new realities.  Globalization is killing the middle class.  Under-employment is here to stay.  The government is entering into huge obligations (i.e. healthcare) that it can’t possibly support.  Higher taxes are coming.  

The only answer is a more skilled, more motivated, better trained, increasingly efficient workforce that is willing to lean into the new realities, work harder, take responsibility, and kick some butt.  (I know, I'm in fantasyland)

Unfortunately, I don's see it happening.

The Fed’s ongoing QE policy, which is understood by few, serves the purpose of making our moribund economy look at least marginally functional, when in fact, it’s not. 

I do think the Fed’s decision to engage in Quantitative Easing in 2008, 2009 and even 2010 probably saved the economy from complete collapse.  If you’re on the brink of disaster, drastic measures are sometimes necessary.  But it’s time to dial it back and accept some new realities.

Just as baseball had its steroid era, the US economy is in the midst of its QE era.  But we can’t become permanently addicted to this juice.  It’s not sustainable.  It’s gimmicky.  And if it becomes the new norm of US economic policy, we’ll surely pay an even higher price down the road.