Stocks underwent wild gyrations on Friday morning. First the Dow (DIA - News) was up over 100 points just after the open on hopes that Fed Chair Bernanke would promise more QE in his Jackson Hole speech. Then, as Bernanke gave his remarks almost the entire rally disappeared. Then a few minutes later the Dow was up 100 points again.
Did anything happen to justify these market movements? The answer is no for the first rally and no for the second rally. Only the selling made sense. There was no promise in the speech for any additional QE in the immediate future. Bernanke did say "the Federal Reserve will provide additional policy accommodation as needed" as he has already stated dozens of times. This is a meaningless platitude that he repeats as often as a mindless parrot. He basically can't take any other position.
Bernanke had to admit that the economy wasn't in really awful shape, but he did emphasize that getting the unemployment rate lower was an important consideration for the FOMC. He did not make any case, nor did he offer proof that doing more quantitative easing would be effective in accomplishing this goal. He did admit however that, "estimates of the effects of nontraditional policies on economic activity and inflation are uncertain". In other words, the central bank is playing a potentially dangerous game that might have very negative unforeseen consequences in the future.
Bernanke did admit that doing QE could disrupt the Treasury market (IEF - News). He stated that, "if the Federal Reserve became too dominant a buyer in certain segments of these markets, trading among private agents could dry up, degrading liquidity and price discovery". All of the Fed's actions degrade free markets. That's why they are supposed to be effective. History has shown that markets always dominate in the end however.
Bernanke made it obvious in his speech that he doesn't think any underlying changes have taken place in the economy or financial markets. The ever-insightful Fed Chair also thought in the spring of 2007 that a mountain of subprime mortgage debt posed no risk to the economy or markets. This time Bernanke said, "rather than attributing the slow recovery to longer-term structural factors, I see growth being held back currently by a number of headwinds". Consider the Fed has been taking action since August 2007 (yes, it's been five years) and the economy still is not in great shape, you would think it might occur to him that maybe his policies don't work particularly well (note to readers: many economists are not particularly good at reality-based thinking).
Within the last few days, it has become obvious that Bernanke wouldn't promise anything at Jackson Hole. The QE touts were already making media appearances and publishing articles admitting this, but claiming that the Fed would be taking action at its September meeting. The same people said the Fed would be announcing QE at its June meeting and when that didn't happen, they said it would occur at the July/August meeting. Then it was supposed to take place at Jackson Hole. Now it's going to happen in September. Don't hold your breath.
There is no way the Fed can do QE3 before the election (unless Europe has a major collapse). It would just be too much of a political hot potato. While there are those who state correctly that the Fed has acted prior to presidential elections in the past, that was before the "Audit the Fed" movement started and before the Republicans started criticizing Bernanke's money printing. Romney has already said that if elected, he is going to dump Bernanke. Doing QE again with only the flimsiest of justifications would be seen as a blatant act to help reelect Obama and save his own job. Like QE itself, this could have "uncertain" consequences and many of them could be unpleasant.
Daryl Montgomery is the Author of "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup.
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