Federal Reserve Overstepped Bounds with Monetary Policy

EconMatters's picture

By EconMatters  


Checks & Balances


If you think about it, the President has checks and balances, the Supreme Court has checks and balances, and even the two houses of Congress have checks and balances.  However as we have seen with the last 5 years of Fed policy that there is no actual checks and balances for what the Federal Reserve can and cannot do with regard to monetary policy, and there should be. 


It might not be so apparent now, but it sure will be five years from now when all is evaluated. The big takeaway will be how in the heck did we let the Federal Reserve conduct all of these ad-hoc policy initiatives with some obvious detrimental effects and unintended consequences for financial markets and the US economy?

Where would Markets Go without $75 Billion assistance each month?


Let us start with the most obvious detriment to financial markets the bubble that is the US equities market. Despite what Goldman Sachs says  with their double speak to appease wealthy clients who they told to be invested in markets last week and this week said the markets are 10% over-valued, but there is no bubble – there is in fact a bubble in stocks.



Seems like a Bubble


The barometer to use is this: If the Fed stopped cold turkey tomorrow all asset purchases, the Dow would drop 3,500-4,000 points in less than a year (maybe even as little as 6 months), and this is a conservative 25% drop in value just in the short term. 


If they were never allowed to intervene in financial markets with asset purchases ever again, eventually markets would fall back to sustainable levels, and all the previous liquidity fueled price appreciation in equities of the last 5 plus years would eventually come out of assets like stocks and real fundamental value would be established. 


My guess is that the Dow would fall back to around the 10,000 level on its own merits over the next 3 years with no asset purchases whatsoever by the Federal Reserve, something in the order of a 40% drop in value.

Bond Market: A Debt Risk Valuation Mechanism 


The Bond market is intended for debt to be issued by parties with parties independent of the debt issuers to then determine a fair market price for the risk of holding said debt in the marketplace, and not a social instrument for creating additional liquidity in financial markets which finds its way into the equities, commodities and currency markets via carry trade liquidity driven fund flows.



It is supposed to be a risk profiler to keep governments and issuers in check in regard to issuing responsible debt at appropriate times. When debt levels reach unsustainable levels, a healthy and natural bond market prices risk accordingly; thereby incentivizing necessary changes to fiscal and monetary policies. 


This mechanism has been greatly distorted by Fed policy, and the long-term consequences are hard to adequately calculate at this point, but they are definitely a cost – the debate is just how high a cost? 


Stock Market: A Valuation Mechanism


The most important point is this the stock market was intended to be a valuation mechanism for public companies based upon how well their business was being run, the economics of their given business paradigm, and the health of the broader macro-economic fundamentals of the market for their goods and services.


Social Engineering Instrument


It was not built as an instrument for social engineering, manipulation by a government entity, or tool to be used for monetary policy; private companies went public to raise additional financing for their capital structure to grow the business, and the market put a value on the business based upon the future prospects of the given business. 


It was never intended as a risk free enterprise. Companies were going to fail, investors were going to lose money; others would flourish, investors would reward these companies with higher stock prices. Fundamentally, the market mechanism would both reward and punish based upon actual operating results of the companies. 


This is how a healthy financial market is supposed to work, and we have devolved so far from this healthy and natural market valuation model that there cannot without question be major price discovery distortions in stocks, as in, a bubble in stocks, and the stock market pricing mechanism in general!


The Fed has positively incentivized the more Nefarious Elements of Stock Buybacks


Stock buybacks are bad enough, and have distorted operating results considerably with artificially making earnings appear better than they actually are, it provides incentives for other investors to front-run these company buybacks, and they are not being used properly these days by companies, i.e., buying back when shares are cheap relative to company prospects, and selling shares when they are expensive relative to company prospects – again a natural valuation mechanism. 


Instead they are being utilized by management to distort prices not because business prospects are so bright, but rather they can borrow cheaply right now ( again thanks to the Fed) and artificially boost their own stock prices and make shareholders happy in their performance of running and managing the company. 


Stock buybacks have in a sense become so perverted from their original purpose that they have become payoffs to like and invest in the company, not because the company is performing so well from an operation`s standpoint, but because they are going to buy back their own stock. It becomes both a deterrent for shorting the stock, and sort of ‘mafia bribe’ for shareholders to invest in the company. 


Remember, this isn`t even company money, these companies are borrowing to buy back shares! This is fundamentally as screwed up from a management standpoint as one can get, one should borrow money to grow the business and create long-term value, not create balance sheet liabilities for the company solely for the purpose of juicing up the company`s stock price! 


This further distorts actual natural market pricing in stocks, there is no actual business evaluation going on currently in financial markets, there are just liquidity injections or price distorting practices.


Textbook Definition of Bubble: Non Market Price Discovery


 Moreover, since all these liquidity injection practices are from the long side, it would stand to reason that value is being distorted heavily to the upside, this is about as close to the text book definition of a bubble that one could possibly create, and the Federal Reserve is at the heart of doing just this act! 


The stock market I repeat is supposed to be an evaluator of companies, and not a social welfare program to bring about some higher good for economy policy. 



Even if they succeeded in creating a short-term wealth effect for a portion of the population that ended up trickling down to some small extent to the broader economy, the damage to the already shaky financial markets that have crashed three times in fifteen years from a long-term perspective is just a case of the Fed overstepping their bounds and destroying financial markets in the process! On any reasonably weighted Cost/Benefit Analysis this is just too high a price to pay!


Do not Trust Anything an I-Bank says for Public Consumption


Goldman Sachs like many of these investment banks have benefited immensely from the Fed overstepping their bounds in financial markets with asset purchases, they are never going to openly tell the American public whether there is a bubble in stocks. 



In fact, they have a long history of not even telling their own clients their actual feelings on markets. And given how many times these investment banks have royally screwed up their own financial investments, half of them probably have no clue of the conditions ripe for constituting a bubble in the first place until after the fact! 


Precedents & Moral Hazard 


The real overstepping by the Federal Reserve to actually buying up financial assets has severely distorted the market process, and the long-term damage to what financial markets are supposed to be about from an overall philosophy, fundamental and mechanical methodology standpoint with the associated costs is really incalculable. 



How do you put a value on destroying natural price discovery in financial markets? You cannot, so despite the current size of the bubble the fed has created short-term, the long-term bubble of completely destroying actual price discovery in financial markets by being able to step in and buy financial assets in markets is the real harm here. 


Moreover, that this act has become acceptable fed policy turf, this precedent and the fact that there were no proper checks and balances to restrict and question this intervention is the harmful and malicious fallout that will inevitably become the Bernanke Legacy.


Either Markets are forever Annual Social Welfare Policy Programs or Legislation is Required to Restrict future Fed Intervention in Financial Markets with intermittent Asset Purchases


There are many other measures the Fed could entertain instead of the path that Bernanke chose in destroying forever the concept of what constitutes a market mechanism. 


Consequently unless the Fed has forever changed what markets actually are, social good mechanisms for government wealth creation, and that means a socialized commitment for eternity, i.e., the market must appreciate 10% every year regardless of broader economics or fundamentals. 


Then they have caused more damage by creating a short-term bubble that is unsustainable on its own, and have set the stage for future ad-hoc interventionist asset purchases in markets on equally subjectivist timeframes and justification! 


This is the real area where the Fed is guilty of overstepping its bounds. They have forever destroyed financial markets with interventionist policies, and future legislation will have to be created to limit the Fed`s power in this area, and restore financial markets back to their intended purpose.  


Yes financial markets are built and intended to fail at times, once they are no longer allowed to fail, they become state tools for policy outcomes. And this reality is a bigger failure in a democratic state, than any short-term and well-meaning goals that result from such policies.


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zerohedgejjxxzz12's picture

Is it not possible that the fed knows what it is doing, and it has been making the ultra rich richer!

That is the only thing that has happened since the crash of 08, nothing good has come to anyone else. So meanwhile everyone is talking about the Fed, as if it does not know what the heck they are doing, maybe they do, Hmm.

Yes_Questions's picture
Uh, the year 2000 called and would like to know what fucking checks and balances the various Estates of .GOV are subject to.
MFLTucson's picture

The Jewish bankers did whatever they wanted in Germany in the 1920's and 30's and have done the same in the USA and both countries will have been destroyed by these gangsters!

Laughing Stock's picture

Very wordy...and essentialy worthless.

Reci's picture

Every contribution doesn't need to be a fact finding mission.  Besides, we all know how masterfully TPTB manipulate and distort those "facts" anyway making them seem like just another opinion.  This observation focuses and makes plainly aware the damage and consequences that arise from short term "patching" or hiding of the core rot in the financial system.  It's clearly obvious that the Fed Reserve never cared about addresssing the long term destruction of market systems over their selfish need and desire to cover their tracks of incompetence and nepotistic corruption.  When you assess the Cons (as this observation points out) that have been bestowed upon the markets as a result of choosing the path that the Fed Reserve has taken, it shows a complete disregard for the long term health and legitimacy of the markets.  It also removes a huge justificating factor of even having a central bank over having Congress control the purse strings which was the desire to have an institution that would take a long term focus of financial health as opposed to a political body that had to focus on the here-and-now to save and justify their jobs until the next election.

The fact that a body responsible for financial stability would allow or even think that blatant and obvious distortions of financial markets is healthy to the tune of pushing markets to 30%+ gains in a single year (with zero real basis) is outright delusional.  It shows an obvious short term panic mindset whose level of manipulation teeters on pure Communistic principles of central control.  With this level of manipulation and intervention, we must begin to call this new economic model "COMMULISM".  The difference being that instead of a single dictator type state, you have many more corporate level (bankers) dictators controlling government policies and resource distribution to further enrich those at the top at the expense of the placated and confused masses.

As a point about fact manipulation, I love the current mantra that's being dished about now that the "Markets are not the economy" or vise versa.  This is a perfect example of taking a grain of truth and distorting it to a justified full disconnect from reality.   It's like saying (with an off the top analogy) that the grades you receive in school don't relate to your actual performance on tests.  While this is true since you get additonal credit for participation, attendance, effort , extra credit and the need to push grown ups out of grade school, it doesn't mean that there is any justification in giving A+'s to F level performing students(companies) simply because you want/wish they would succeed and perform better but that is exactly what the Fed is doing to all the children (stocks) that are primarily owned by their elitist brethren.  The worst part being that in both cases it distorts the value of working hard to achieve a healthy and optimally productive growth to concentrating on working the manipulations in the system that are designed to cover the failure and rot with a thin candy coated shell of false prosperity that comes at the direct expense of those whom have worked very hard and suffered to achieve real and organic prosperity and growth.  Moreover, it shows that the elite and politicians will always take the easier path of choosing class warfare by destroying middle class savings and jobs over the much more difficult one of regulating and fixing a system embedded with corruption where people willingly invest their money and efforts instead of by use of Central Banker force that maintains the status quo of rewarding stupidity.

LMAOLORI's picture



Hey the Federal Reserve is good at one thing TAKING THE HEAT OFF THE POLITICIANS who's spending turned you all into TAX SLAVES!  


The Fed couldn't do any of this without the permission of the politicians!


The Fed as Giant Counterfeiter

" Once you understand the details of modern central banking, you are able to step back and see that it truly is a way for the government to use the printing press to pay its bills. All of the complicated process of targeting interest rates through buying Treasuries simply hides this essential point — and perhaps deliberately so."



The Greatest Myth Propagated About The FED: Central Bank Independence (Part 1) http://neweconomicperspectives.org/2014/01/greatest-myth-propagated-fed-central-bank-independence-part-1.html


The Greatest Myth Propagated About The FED: Central Bank Independence (Part 2) http://neweconomicperspectives.org/2014/01/greatest-myth-propagated-fed-central-bank-independence-part-2.html

The Greatest Myth Propagated About The FED: Central Bank Independence (Part 3) http://neweconomicperspectives.org/2014/01/greatest-myth-propagated-fed-central-bank-independence-part-3.html


Renfield's picture

Unaccountable, unelected, secretive leaders who from time to time issue reports that are clearly propaganda, and guidances that over and over again turn out to be false. The 'elected' minions of these leaders break pretty much every law their countries have, with obvious and public impunity.

How much clearer do they need to be? We have as much influence on 'their' policies as livestock has at the farmhouse. We pore over these increasingly-laughable reports and charts, trying to guess what the stockowners' next plans are for us. We barely know their names and probably have no idea who most of them even are. It saddens me now to see 'analysts' and 'traders' waiting rabidly for the next FOMC Minutes and poring over the latest 'inflation'/'unemployment'/etc. figures, arguing over who gets the release a few minutes early, graphing charts and forecasting numbers AS IF these figures weren't a pack of lies and propaganda. It makes me bitter to hear people say 'we' deserve the results of this destructive empire, as if 'we' had anything to do with it. With what, one vote every 4 years? Really?

Anyone with education or intelligence or connections is busy turning whatever advantages they have toward getting OUT of this system. Any 'investment planning' that relies on this metastasizinig pile of paper certificates is nothing but fantasy and play now.

The Empire dies screaming. This is not now and never was an 'American' Empire. This is the Globalist Empire, the Stealth Empire, the Bankster Empire. This empire began with the "world reserve currency" at Bretton Woods, when global financial control was established using the last currency that had any kind of sound asset backing. The first thing they did was to loot the U.S. When that was done they went 'global'. The Empire peaked during the petro-dollar years, and is now in its last stage. The secrecy that built it is now obvious even to us the sheep, and the only people who believe the empire's lies now are those firmly in the MSM cult. Many of them will never be free.

This empire was the most wasteful and destructive, and perhaps the briefest, in human history. (1945 to when? 75 years?)

If there ever is a real "American Empire" - and I sincerely hope there never is - then I have no idea what it will look like. Any other empire is better than this one, but I think this globalist empire will be the last for a long, long time. I'm bitter about how it's all gone, but at least it's looking like we're approaching a long-overdue end.

Sorry about the fact-free, link-free rant. Sorry not to be commenting on anything in the article, which I gave a "5". I don't mean to sound ungrateful for analysts such as EconMatters, or Mish or Keen or Williams or anyone else who tries to report the truth. I just get sick of all this obsessing over the details sometimes, when in a central-planning cult such numbers are just not that relevant. In a fully-rigged 'market', analysts calculating 'gdp', 'inflation rate', 'unemployment' and 'guidance' just seem like a bunch of kids playing 'Monopoly' or 'Stock Ticker', with about as much effect on the household budget.

Radical Marijuana's picture

Yeah, that's a good rant!

& I liked these lines best:

"This is not now and never was an 'American' Empire.

This is the Globalist Empire, the Stealth Empire,

the Bankster Empire."

fooshorter's picture

<- Gold

<- Silver

Boris Alatovkrap's picture

<-- Copper

<-- Corrugated Cardboard*

* Construction of new housing for FSA Army

Boris Alatovkrap's picture

So,... ZHer is long cardboard... Hmmmm. Such is optimism!


Shocking. People with the ability to create " money " out of thin air might be just a leetle bit crooked. 

I'd never have guessed. Torches and pitchforks at 6 on FOX News, Fair And Balanced.  

illyia's picture

Excuse me for butting in but EconMatters, it is important that you meant that the Dow would fall back to 10,000 NOT 1,0000. The INDU dropping to 1,000 is certainly not a 40% drop!

FIX IT PLEASE. People will read that and believe it... I know... I know...

P.S. This was an EXCELLENT article - with one other exception: The conclusion sentences could be tightened up. It's really top-rate thinking and I will use it in various forms to back-up arguments (and will contact you for attribution if needed). But those last three paragraphs could be so much cleaner.

You do very fine work. Very clear thinking and quite useful.

Thank you.


JeffB's picture

Yeah, I think it's a great article as well, but I too had a little nit to pick. Maybe I'm just being a little obtuse, but it seems like the  bolded section below has a word or two out of place.?

"This is how a healthy financial market is supposed to work, and we have devolved so far from this healthy and natural market valuation model that there cannot without question be major price discovery distortions in stocks, as in, a bubble in stocks, and the stock market pricing mechanism in general!"

Perhaps something like '...there cannot be major price discovery in stocks and the stock market pricing mechanism in general with such distortions (ie. a bubble in stocks).

But either way, it's still an excellent article. Thanks for posting it.




Boris Alatovkrap's picture

Technically, Central Bank is not create "new" money, but is create new "share" of money by dilution of existing money, and give "new" money to bank as loan, but everyone is know bank is never repay, but churn loan in perpetuity (until banking system is collapse).


Is like Boris and Natasha, always saying - " Where is Moose and Squirrel ? "

Moose and Squirrel - is what's for dinner in New no money Amerika.