For a very long time, rebooting the US economy has been left to a handful of central bankers at the Fed. After the swift and undemocratic action by the Bush and Obama administrations to cope with the financial crisis, Washington ceased to be a major player in the economy. Short of dropping real dollars out of helicopters the Fed followed a basic game-plan: liquidity, liquidity, and more liquidity. But the Fed’s long run may be coming to an end. Why?
Considered virtually “fail safe” by Keynesian doctrinaires, the Fed’s liquidity strategy is not working. By most accounts, the Fed has failed to achieve its stated aim, the creation of new jobs and the restoration of U.S. economic growth. Though American financial markets are awash in dollars, US growth remains anemic, America’s fiscal situation continues to worsen and uncertainty plagues investors.
To some, this allegation may sound pessimistic, even blasphemous, but tough questions must be answered. What about the housing recovery, is it real or imaginary? What about the rising stock market fueled by fresh infusions of cash from the Fed? What about the claims of strong growth relative to the rest of the world? Perhaps there is something good about living in the biggest shack in the projects, but markets and economies are always about the fundamentals, and today the fundamentals are weak.
Real economic growth means job creation, technological innovation, entrepreneurialism, and rising standards of living for everyone, not just bankers like JP Morgan Chase CEO Jamie Dimon and his New York Colleagues. It is now widely believed on Wall Street and probably around the world that the recent stock market rally is largely artificial; many are calling it “the Bernanke Rally.”
It is also no secret that the Fed continues to purchase US treasury bonds in order to suppress borrowing costs for reckless spenders on Capitol Hill. To prop up the real-estate market the Fed also purchases roughly 40 billion dollars of Mortgage Backed Securities a month – to relieve banks of their “toxic” waste. The point is cheap money is not a substitute for tangible, concrete economic growth.
What cheap money can do, however, is create bubbles, huge overvaluations of assets and goods akin to the dot.com bubble followed by the housing bubble. In a recent interview with Bill Gross, the founder of the largest bond investment company in the world, PIMCO, tells investors bubbles are everywhere.
But the shell game may be coming to an end. Fed officials including Bernanke himself, have already signaled a possible end to Quantitative Easing Infinitum (QEI). That being said, the likelihood the Fed will slow or halt the liquidity train is unlikely. The risks to the fragile American economy are simply too great.
Still, forces in the global market the Fed cannot easily control may overtake any future shift in Fed policy. Bond yields are on the rise, not just in US treasuries but in bond markets around the world, from Japan to Italy. Stock market declines in Japan and the unrelenting debt crisis in recession plagued Euro land will also lean heavily on Wall Street. Add to this combustible mix Washington’s protracted debt ceiling battle and it’s hard to imagine a soft landing for the U.S. or the world economy.
In truth, the liquidity-fed illusion of economic strength furnished by a bullish stock market and low interest rates may no longer be enough to prop up consumer confidence. The real economy is not recovering. The average US household has not recovered its losses from 2008, state and local governments are still anchored to enormous health care and pension obligations they are struggling to meet. And the job market is feeble. Millions of Americans remain unemployed or underemployed. Many have stopped looking for work altogether.
Perhaps, these points explain why Ben Bernanke will not attend the Fed’s annual meeting in Jackson Hole, Wyoming, the first time he has not participated since 2006. This could signal his departure as Fed Chairman. It could also mean the end game for current Fed policy.
Cameron Macgregor is a former naval officer. He is currently a graduate student at George Mason University.