While the Dow Jones average continues to defy impossibility with its astronomical highs, Americans are starting to wonder why the mood on Wall Street is so far removed from real life everywhere else.
Two things must be understood.
Number one: ask any reporter on the stock market beat and they’ll tell you the mood in New York is really no different from yours. Brokers are edgy, cautious, and living one day at a time. Many of them are quick to admit “equity markets have been artificially stimulated by ‘so much tape and glue from the Fed, Treasury, White House, and Congress.’”
In other words, they are watching the market get artificially pumped up before their very eyes and they are powerless to stop it.
Number two: this is being caused mostly by low interest rates.
The driving force behind the rally is the money that poured into riskier assets like stocks in the last quarter of 2010 after the U.S. Federal Reserve pledged to keep interest rates low.
Low interest rates are typically thought of as way to encourage affordable borrowing. That’s the line most often used by liberal economists – less oppressive interest means more people will borrow and banks will gladly extend the “cheap” credit.
And yet that hasn’t happened. Mortgages remain stagnant, companies are not borrowing for growth, and no new jobs are being created. The Miami Herald reported Sunday that small businesses are still only getting loans through government programs.
So if easy borrowing is not the real goal, then what is? Propping up the stock market.
Bernanke hinted at this in November 2010:
Lower corporate bond rates will encourage investment. And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion.
While low interest rates mean less interest on your mortgage, they also mean lower interest you earn on bonds or savings accounts. And there is the rub; who would stockpile money in the bank if it earned zero interest? Who would feel rushed to pay off a mortgage or car loan if the payments are minimal?
The economic laws of gravity kick in, and money naturally flows wherever it can profit the most. Consumers ditch the savings account for greener grass elsewhere. And thanks to a little prodding from the Fed, the most appealing place to store your money these days is corporate equity.
The market looks hot, the media say Wall Street is booming, consumer confidence goes up, and people start spending more. Investment accounts are full of expensive shares. Household wealth appears to overcome debt, maybe even an underwater mortgage. Economic crisis solved.
Six months after QE2, this is finally starting to become mainstream knowledge. And sites like The Economist are worried whether it will work.
As for the Fellowship, we have our doubts as well.