Markets were overjoyed by the announcement of a third quantitative easing program that was announced yesterday. Fed Chairman Ben Bernanke revealed plans for an open-ended QE that will purchase $40 billion in MBS every month until the Fed is satisfied with the economy. Nearly every major benchmark hit a post-recession high along with strong performances from big name commodities like gold and oil [for more economic news subscribe to our free newsletter].
Some speculate that Bernanke made the move to win another term at the reigns, as a stronger economy could keep Romney out of office, and Romney has been nothing but vocal about his plans to replace the Chairman. His reasoning was obviously an attempt to boost an economy that has had trouble getting going. But it would seem that Bernanke is simply delaying the inevitable. Yes, the numerous rounds of Federal easing will boost the economy in the short term, but nothing after the first QE had a meaningful impact on the economy, it instead propped up an economy that was not deserving of such a jump (as far as fundamentals are concerned).
Right now, stocks are at the highest they have been since the recession began, but let’s compare a few figures. Pre-recession, GDP growth was at about 3.6% at the end of 2007, while unemployment sat around 4.6%. Now, GDP growth is at 1.7% (revised) with unemployment staying comfortable above 8% (if you need more stats, there’s plenty where that came from). Stocks have surged since the recession, but the fundamentals of our economy have only marginally improved. You could almost say that the only thing QE benefits is the stock market, creating a false sense of security for investors everywhere. My favorite analogy that I have read is that the Fed is trying to build skyscrapers on a sinking foundation; they can keep making taller buildings but that foundation is going to give out at some point [see also Four Commodities To Buy Before Roubini’s “Perfect Storm”].
Eventually, the Fed will have to pull funding from the market, or will be unable to continue funding these programs and we will be in a world of hurt. Investors will suddenly realize there is nothing to justify stocks being this high and a massive sell-off could very well follow. The Fed’s constant easing is propping up markets and creating investor confidence where there shouldn’t be any. Many analysts feel that the recession being cut short by stimulus was actually a negative as it may now lead to a deeper recession afterwards.
Consider how our debt is now sitting at about $16 trillion, more than our current GDP. Further money printing is only going to further dilute the money supply and make it harder to get out from this enormous hole that we are in. With debt higher than our country’s worth, weak GDP growth, and relatively high unemployment, how can the stock market be justified at its current levels? Quantitative easing. My sincere hope is that the Fed and whoever wins the upcoming Presidential election will find a way out of this spiral without causing too much damage, but others like Peter Schiff are not so sure that it’s possible. What do you all think, is QE a false crutch for markets or does it stimulate real growth? Let us know in the comments below!
Disclosure: No positions at time of writing.