Aside from Jay Sommariva’s quarterly missives on the bond market, we generally refrain from commenting on U.S. Federal Reserve policy in these newsletters. That’s because (in the short run at least) monetary adjustments tend to have little effect on the real economy, and a lot of effect on financial asset prices. Here at Fort Pitt, our focus is finding shares of well run businesses, which we then hold over time, rather than day-to-day stock market gyrations. So, unlike the majority of money managers and commentators, we tend to give Fed machinations short shrift in our investment process.
That said, my last piece on Fed policy, titled “The Axis of Artifice”, was published four years ago. In that article, I lamented the tepid nature of the economic recovery from the 2008 financial crisis, and suggested that artificially suppressing interest rates (as the Fed had done since 2008) wasn’t a good way to stimulate real economic growth.
At the time, low interest rates weren’t boosting U.S. economic growth because renewed borrowing and spending simply wasn’t in the cards for the typical U.S. household so soon after a major crisis. Also, the banks needed their own (lengthy, it turns out) period of balance sheet repair to get back in shape to begin lending and supporting a recovery.
Fast forward four years, and not much has changed. Only a small portion of the nearly $4 trillion in bank reserves created by various Fed policies between 2008 and 2015 has been lent for new houses, cars and small businesses. The vast majority of these reserves are still sitting at the banks. More importantly, the “half-baked” recovery of 2011 is no more fully baked 4 years on. The latest reading on U.S. Gross Domestic Product (GDP) shows real growth at a tepid 1.5 percent rate. Low-paying service jobs are seemingly everywhere, but real wages remain stagnant.
Finally, the Fed may be recognizing this—recognizing that their efforts at monetary stimulus really haven’t helped the real economy. Fed Chair Janet Yellen said just a few days ago that the Federal Reserve may be closer than ever to hiking short-term interest rates for the first time in a decade. She told Congress on Wednesday, November 5th that a move in December is “a live possibility.”
Are they really getting it? I said four years ago that a robust and durable economic recovery would only emerge when two conditions were satisfied. First, excesses from the last cycle would need to be fully wrung from the system. Second, policymakers could no longer be seen to be propping up the economy with free money. After seven years of interest rate suppression and balance sheet repair and remodeling, the Federal Reserve appears to be reaching the same conclusions.