The Fed's Not Stupid

Despite what you might read, Yellen & Co. aren’t stupid.

I recall a talk Harry gave to a bunch of financial advisors back in 2011 when he explained that quantitative easing is basically like crack cocaine for the markets.

And like with any drug, when the markets run out of their fix, they’ll crash. Specifically, the stock market bubble will finally burst. More importantly, so will the debt bubble. All the dollars the Fed printed will be destroyed.

So although the Fed ended QE nine months ago and wants to raise rates to finally claim victory that their policies “worked,” they know they’re backed into a cornrner… and scared enough that raising rates at this stage will burst the bubble and send us right back into a recession.

They’re meeting again today to discuss whether a rate hike should happen in September and December. Four items are on the docket:

  1. Employment: the Fed’s target for an acceptable unemployment rate is a moving one. It dropped from 6.5% to… well… we don’t really know because they keep dropping it! Right now unemployment’s at 5.3%. Of course, the participation rate is as low as it was in the 1970s. And that was before women joined the workforce en masse. So we have to take the unemployment numbers with a hefty grain of salt.
  2. Wages: Since the unemployment rate is down to what some economists consider at or near “full employment,” we should be seeing wage inflation by now, as companies bid for quality workers. Yet over the past seven years, wage growth has been stagnant, barely budging. We saw a slight uptick in June’s report, but one month does not a trend make.
  3. Economic Activity: This has been sub-par even though the stock market has risen to record highs. Low mortgage rates have helped home sales. But GDP growth, corporate earnrnings, and most other measures for economic expansion have been blasé.And finally…
  4. Inflation: Another bust. The Fed couldn’t hit its 2% target even after six years of money printing. Encouraging speculation, risk, and spending by keeping rates at zero hasn’t done the trick either.

None of these are ideal conditions for a Fed rate hike. But the bigger question at this point might be that if the economy does roll over, the Fed will have very few weapons at its disposal this time around. Rates are already at zero, and QE doesn’t quite work as well when long-term bond yields are at today’s low levels.

Who knows. Maybe they’ll pull another rabbit out of the hat.

Lance Gaitan

Lance Gaitan

Editor, Dent Digest Trader