In yesterday’s post “Too Much Bubble Talk” I discussed the possibility that instead of the Federal Reserve tapering their current quantitative easing programs (QE) that we could see an increase to those programs next year.
“That lack of “economic success” will likely mean that the Fed remains engaged in its ongoing QE programs for much longer than currently expected. The real surprise in 2014 could very well be an increase in size and scope of the current quantitative easing programs if interest rates remain elevated, deflationary pressures continue to increase and economic growth stalls. The injection of more liquidity could very well drive asset prices to the irrational extremes of a true market bubble. However, if that occurs, the majority of market analysts and economists will not be talking about a “bubble” in asset prices but why ‘this time is truly different.'”
Shortly after I posted that article Janet Yellen began her nomination hearings before Senate to become the next Federal Reserve Chairman to replace the outgoing Ben Bernanke. In her prepared remarks and opening testimony she made it clear that her priority was the continuation of current policies. Via Zero Hedge:
“Just as the market was expecting, and may have been leaked once again, Janet Yellen didn’t let anyone down. Today’s exuberance in stocks matched only by confirmation that Janet Yellen has gained her helicopter pilot’s license and is ready to take over the reins of printer-in-chief from Bernanke.
YELLEN SAYS ECONOMY, JOBS `PERFORMING FAR SHORT’ OF POTENTIAL
YELLEN: SUPPORTING RECOVERY IS PATH TOWARD MORE NORMAL POLICY
Key extracts, including Credit Suisse’s take:
Support demand /lower for longer -‘supporting the recovery today is the surest path to returning to a more normal approach to monetary policy’
No hurry to taper – ‘A strong recovery will ultimately enable the Fed to reduce … reliance on unconventional policy tools such as asset purchases’
More transparency (think consensus FOMC projections) – ‘have strongly supported this commitment to openness and transparency, and will continue to do so’
Sup and Reg for bubbles not tighter policy – ‘I am committed to using the Fed’s supervisory and regulatory role to reduce the threat of another financial crisis’
And of course, status quo continues – ‘I believe the Federal Reserve has made significant progress toward its goals but has more work to do.'”
Not surprisingly the asset markets rallied sharply on her testimony as the primary concern as of late has been the removal, or “tapering,” of the liquidity “punch bowl” that has been primarily responsible for driving asset prices higher. The correlation between increases in the Federal Reserve’s balance sheet and the financial markets remains tightly linked.
However, while Yellen remains committed to ongoing QE programs to support the recovery the question that should be asked by Senators during her confirmation hearing is whether these programs are actually “working” to in terms of creating economic recovery?
To answer that question we can look at the increases in the Fed’s balance sheet relative to the annual percentage change in GDP.
As you can see, QE 1 had the most impact on spurring growth following a complete economic blow out post the financial crisis. Importantly, fully three-quarters of the economic recovery in 2009 and 2010 can be directly attributed to inventory restocking rather than broad increases in organic growth.
However, that analysis is very misleading as QE was only a VERY small part of the stimulus being injected into the financial system at that time. The table below shows all of the various programs from the Federal Reserve and the Government that were used to stabilize the economy and markets during and immediately post the financial crash.
[Note: This table does not include HAMP, HARP, Payroll Tax Cuts, etc. all of which were supplied boost growth.]
If we analyze the impact of these programs, in total, on the economy we find a much more disappointing result. Chart below shows the growth of real GDP as compared to amount supports, subsidies and bailouts injected into the system.
From the 4th quarter of 2008, when TARP began, through the 3rd quarter of 2013 total economic growth has been $895 billion. During that same period, the total amount of governmental interventions skyrocketed to $31.476 trillion.
However, while the chart above shows the quarterly net change in real GDP (left hand scale) as compared to the financial interventions, it does not portray an accurate picture. In order to see the real differential between the levels of support, and real GDP, we must view the data with a similar scale. The chart below uses a cumulative net increase for both data series.
Despite Janet Yellen’s commitment to continue supporting the economic recovery the transmission system of government interventions is clearly broken. As noted in the chart above, it has taken $35.17 of government intervention to generate $1 of economic growth over the past 5 years. More importantly, the rate of diminishing returns is increasing. In other words, it is taking consistently more dollars of intervention to create an incremental increase in economic growth.
In the meantime, as shown above, the continued liquidity programs from the Federal Reserve continue to boost asset markets towards more exuberant levels. However, despite signs of a potential market “bubble” Janet Yellen clearly sees no such thing:
YELLEN SAYS FED DOESN’T SEE BUILDUP OF FINANCIAL RISKS
YELLEN SEES LIMITED EVIDENCE OF ‘REACH FOR YIELD’
YELLEN SAYS FED LOOKS OUT FOR ANY POTENTIAL ASSET PRICE BUBBLES
YELLEN DOESN’T SEE `MISALIGNMENTS’ IN ASSET PRICES
Of course, since the Fed has never acknowledged a market bubble in advance, this time is likely to be no different.
Courtesy: Lance Roberts
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