The fact that the stock market surged on the news that the Federal Reserve Board (FRB) will not be tapering back on quantitative easing should finish the discussion as to whether the stock market has been, at least partially, inflated by the ongoing Fed action.
The Fed’s actions, known as QE3, have been bolstering the US stock market, presumably in the hopes that this would create more jobs. The rate of job growth would suggest that they have been unsuccessful in this regard.
The decision by the Fed is wholly consistent with our general economic outlook although it may provide for more short-term buoyancy to the market than would otherwise be anticipated. Either way, the financial markets view it as good news and investors will sleep better tonight. We still expect a negative reaction from the market when the FRB finally gets around to tapering the $85 billion/month program.
The longer-term problem of too much liquidity from the Fed is likely to be ramped up after Dr. Bernanke leaves in a few months. Dr. Summers withdrew his name as Chairman of the Fed and has essentially left the spot open for Dr. Yellen.
While she is no doubt very capable in many areas, she is an ardent believer in federal stimulus and in quantitative easing as a means of job creation. Regular readers know we do not hold to that position, and we foresee that ongoing massive quantitative easing will result in inflation in the years to come.