Federal Reserve Action Has Diminishing Marginal Utility

The Federal Reserve has had its foot on the accelerator since 2007.  That is when the banking crisis first manifested itself.  The government has take all kinds of heroic action, almost unprecedented in scope.

TALF, TARP, bailouts, Dodd-Frank (which restricted competition), regulation, Quantitative Ease 1-2-3-forever, 0% interest rates.

All this action has distorted economic incentives and is now finally having an effect on behavior.  The stock market has rallied since QE was first tried in August of 2009.

^SPX data by YCharts

Home prices are up, but it’s more a function of the relationship between the cost to borrow money than it is true economic growth feeding demand.

The actions of the federal government are killing the real wealth of individual citizens. If you are a private sector retiree on a fixed income pension, 0% interest rates are crushing your standard of living.  (Government pensioners have gotten their COLA increases-no worries there.)  The value of the dollar has declined, and while the numbers in our accounts seem similar to what they were, the purchasing power of those numbers is not.

^DXY data by YCharts

It would be worse if other national banks hadn’t monkeyed with the value of their currencies, and engaged in constant QE.

Additionally, the labor participation rate and jobless rates for Americans are pitiful. We basically are still in an economic funk.

Janet Yellen is scheduled to become the new head of the Fed.  From all outward signals, there will be no change in policy.  Like the 24 Hours of LeMans, just a change in drivers.

But, constant QE has diminishing marginal returns.  Eventually, the market will discount the actions of the Fed.  Fed meetings already have less gravitas and effect than they did eight years ago.

The Fed can impose its will on short term rates, but it cannot control the long term forever.  Not only has it engaged in dangerous policy by purchasing most of the federal government debt, it has been reckless by shortening the duration of our debt portfolio.

Remember the question asked in 2000 when we repealed Glass-Steagall?  ”Are we concentrating too much risk in the hands of too few?”

The same question ought to be answered by the Fed today.  Are we concentrating too much risk in one part of the yield curve?

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