Reddit vs. the Fed: Who Understands Asset Bubbles Best?
Federal Reserve chair Jerome Powell was asked the GameStop and asset bubble question was asked at the end of Wednesday’s committee meeting:
I know you do watch a range of assets. But from Bitcoin to corporate bonds to the stock market in general, to some of these more specific meteoric rises in stocks like GameStop. How do you address the concern that super easy monetary policy, asset purchases and zero interest rates are potentially fueling a bubble that could cause economic fallout should it burst?
Powell started with a mention of the pandemic and the need to continue his role assigned by Congress to promote maximum employment and stable prices. In his response he mentioned 9 million jobs lost last year and that monetary policy should remain accommodative in order to get “inflation back to 2% and averaging 2% over time.” They look at various factors in the economy, not just “one thing or two things,” as stated in his own words. Finally, after some Fedspeak, he addressed the question:
So if you look at what's really been driving asset prices really in the last couple of months, it isn't monetary policy. It's been expectations about vaccines. And it's also financial—sorry, fiscal policy, … the news items that have been driving asset purchases, sorry, asset values in recent months.
Surely, he isn’t suggesting it has been the hope of the vaccine and fiscal policy driving asset purchases. He didn’t specify what has driven asset prices prior to these most recent months. Luckily, he provided clarification, concluding asset bubbles are not the Fed’s doing:
So I know that monetary policy does play a role there. But that's how we look at it. And I think, you know, I think that the connection between low interest rates and asset values is probably something that's not as tight as people think, because a lot of different factors are driving asset prices at any given time.
We partially agree; low interest rates shouldn’t take the sole blame for levitating the price of bonds and real estate or for the all-time highs in the stock market. The Fed’s $7 trillion balance sheet and perpetual money creation plan should take some credit.
That’s only referring to asset prices. Per the chair, they’re looking into this issue, but it’s not really something they control, unlike increases to the cost of living through price inflation, which the Fed does take credit for. Powell noted:
So we think it's very unlikely that anything we see now would result in, you know, troubling inflation. Of course, if we did get sustained inflation at a level that was uncomfortable, we have tools for that. It's far harder to deal with too low inflation. We know what to do with higher inflation, which is that, you know, should the need arise, we would have those tools.
It’s somewhat ominous to think the Fed knows what to do with higher (price) inflation. Powell didn’t specify what exactly those tools are. They could raise interest rates. Considering how large debt loads are for members of society, whether government, hedge funds, corporations, or the average household, this would be unfathomable, not only this year, but any time ever again. If it’s any consolation, regarding a high sustained level of inflation, he said “we don’t expect to see that at all.”