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The Fed Intends To Make You Richer

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It used to be said that it was the job of the Federal Reserve to take away the punch bowl before the party got going. How things have changed. Not only did the Fed not take away the punch bowl at its meeting last week, Chair Yellen essentially declared that the party was still way too boring and that there would be plenty of punch for everyone for years to come.

I found the press conference following the Fed’s FOMC meeting truly extraordinary. Short of actually cutting the Federal Funds Rate back to 0% and launching another round of Quantitative Easing, it is hard to imagine what else the Fed could have done to further drive up the price of stocks, property and gold.

Here are some of the highlights:

The Fed left interest rates unchanged. Its target for the Federal Funds Rate remains between 0.25% and 0.50%.

We were informed that the Fed’s estimation of the “Neutral Rate” for the Federal Funds Rate is coming down; and, therefore, at the current level, the Federal Funds Rate and Fed policy in general are “only modestly accommodative”. By the way, “the Neutral Rate” is a relatively new addition to the Fed’s vocabulary. It means the level of the Federal Funds Rate that neither stimulates nor restrains economic growth. This reduction in the Fed’s estimation of the Neutral Rate signifies that the Fed’s assessment of the country’s economic prospects has been cut.

Last December, when the Fed hiked the Federal Funds Rate for the first time in nearly 10 years, Chair Yellen indicated that there would probably be four additional rate hikes in 2016. So far there have been none. It now seems that there will be only one – at the most.

As for future rate hikes, the median forecast of the FOMC participants suggests there will be only two rate hikes next year, and only three during 2018 and three during 2019. These projections are all 25 to 50 basis points lower than the Fed’s June projections. If the new projections do, in fact, prove to be accurate, that means the Federal Funds Rate will only reach 2.6% by the end of 2019.

What’s more, Chair Yellen informed us that 2.9% is now the likely long-term appropriate level for the Federal Funds Rate. To put that into perspective, between 1962 and the time the NASDAQ Bubble popped in 2001, the Federal Funds Rate was never lower than 3.0%. The announcement that 2.9% is the new long-term appropriate level for the Federal Funds Rate suggests that the Fed now understands that the deflationary pressures of Globalization have fundamentally altered the outlook for inflation in the United States for many years to come.

Finally, the Fed also lowered its projections for economic growth in 2016 to 1.8% (from 2.0% in June). It left its GDP forecasts for 2017 and 2018 unchanged at 2.0%. In 2019, the Fed expects economic growth to slow again to 1.8%, in line with the central bank’s new assessment for the economy’s longer run “potential” growth rate. The Fed’s previous assessment of the United States potential growth rate was 2.0%.

All of this would be horribly depressing except for one thing: it is wildly bullish for the stock market and other asset prices. The longer interest rates remain low, the higher asset prices are likely to rise. The Fed has been driving the economy by pushing up asset prices since 2009. Last week’s press conference sends a clear message that they have every intention of continuing to push up asset prices. In short, the Fed’s strategy is to make you richer, so you will spend more and the economy will continue to grow.

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Original publish date: September 28, 2016

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