The Fed’s Report Card

The S&P500 crept up a fraction of a percent last week on fumes—volumes were near December holiday lows. This means, again, that there is very little conviction by the most traders and investors about the market’s current price levels. True bull markets develop on rising volume, not falling volume. Volatility, as measured by the VIX index, is approaching multi-year lows, levels that are usually associated with major tops in prices.

It was a quiet week for the economic data. Existing home sales disappointed. Instead of rising—as expected—home sales fell. To add insult to injury, median prices fell (year-over-year) as usual for the last six years running. Initial jobless claims remain in the mid-300,000 range. New home sales beat (barely) expectations, but the number is still sitting near multi-decade lows. Also, as with existing home sales, median prices fell, but in this case, they fell by a stunning 9.6%.

Technically, the equity markets remain over-bought, and over-stretched. While the uptrend on the daily charts is still in effect, prices are poised for a pullback. The question is, will the Fed (and other money printing central banks around the world) “permit” equity prices to fall?

Speaking of the Fed, this seems like a good time to assess the Fed’s two major monetary policies: ZIRP zero interest rates) and QE (quantitative easing).

More than three years after introducing these panic-driven emergency measures, lets look at a few key areas of the economy and see how well the Fed has done boosting them.

First, let’s look at prices. The problem with using the Fed’s preferred measure (core-PCE) is that key components—components, such as food and energy, that all folks need to buy to live and work—are excluded. This makes this inflation measure look much lower than what’s actually happening in the real world. So we’ll count them. And judging by the near record prices or oil and gas, the soaring prices of nearly all food commodities and end products, the Fed has failed here. Sure, they’ll point to “contained” core inflation measures, but in the real world inflation is soaring.

Second, comes employment, and here we’ll ignore the deceptive headline rate of unemployment (U-3) because it ignores millions of unemployed folks who are discouraged, working part-time because the can’t find full-time employment, and others who have left the workforce because getting a job is very difficult. So we’ll simply measure total employment relative to the working age population. And the results are horrible—today, virtually the SAME number of people are working today as there were 10 years ago, except that the population has jumped by about 30 million! Again, the Fed has failed here as well.

Next, let’s look at the values of the largest asset most households own (by far)—they homes. And we find that, based on the latest national Case-Shiller home price index, median home prices have FALLEN so far that they are today on par with where they were in 2003. Another failure by the Fed.

What about side effects? With near-zero interest rates, what’s happened to the incomes of savers and fixed income investors (such as pension funds, insurance companies, and educational endowments)? Needless to say, this income has collapsed, which has crushed the ability of savers to spend, and has created massive holes in pension funds (both corporate and public) and insurance funds that rely on reasonable interest rates to pay out claims in the future. Again, the Fed has failed.

Finally, there’s another side effect—the impact on stock markets. And what’s the obvious story here? Clearly a big win for stock owners, and the managers whose bonuses depend on rising stock prices. It’s just too bad that the average family owns very little stock. And it’s too bad that the average pension fund and insurance firm relies on bonds more than stocks. In short, it’s too bad that the goosed stock market has not benefited most folks in this country. So yes, here we finally see a strong grade for the Fed. But it’s one that the Fed was never asked to achieve (remember, the Fed’s two core goals are to maintain price stability and low unemployment), and it’s one that benefits a very small and elite slice of the general population.

So when the entire report card is considered, it’s hard to give the Fed a strong overall grade. In fact, it’s arguable that the Fed has generally failed.

What’s worse, is that by focusing attention on the stock market, the Fed has diverted public attention from the fact that very little (arguably nothing) has been done to address the root causes of the global financial crisis and the subsequent Great Recession.

This means that while we’ve been distracted by the rising stock market, the risks of another meltdown have never gone away, making another meltdown—at some point in the future—all the more likely to occur.


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