The Federal Reserve has strayed away from its original mandate and is now an asset bubble preserver bank.
It seems as if no one is afraid of the big, bad inflation wolf after all. It was a telling commentary on the state of the market’s mindset– or at least its order flow– that Thursday’s high CPI print was followed on by a surge of demand for financial assets, driving the S&P 500 to fresh all-time highs.
The bond market provided a comforting backdrop for the equity rally, though at least some of the demand for Treasuries was almost certainly stop-loss buying from shorts. Will the inflation and asset-market backdrop be sufficient to spur the Fed into talking about tapering? That depends on how narrowly the FOMC’s labor-market blinders are set. Maintaining the status quo has been tantamount to easing this year, however. Is it any wonder that financial assets are on the moon?
Yes, as inflation rises, monetary policy gets easier. And equity markets continue to boom.
One of the aspects of higher inflation that isn’t always top of mind is that it actually renders the Fed’s monetary policy stance as looser. Setting aside the issue of QE, which doesn’t afford an easy historical comparison before the GFC, we can get a sense of the Fed’s policy stance by comparing the real Fed funds rate (deflated by core PCE inflation) with the Laubach-Williams natural rate of interest– the famous r-star. Amazingly, this measure is now easier than it ever was under Ben Bernanke or Janet Yellen.
Here is the Laubach-William natural rate of interest. Now the lowest in history at 0.029254%. That is getting alarmingly closer to zero.
Thanks to bubbles in the stock market and housing market, household net worth to GDP has soared to new highs.
M2 Money velocity is near historic lows while R* is at historic lows.