Easy Money and Stock Bubbles

The problem is that easy money policy is not so easy anymore. It never did prop up the U.S. economy, in spite of Keynesian enthusiasm, but at least it created the illusion of economic health by propping up the stock market. Now, it's unable to do even that.

As the late comedian Mitch Hedberg once said: "I had a stick of CareFree gum, but it didn't work. I felt pretty good while I was blowing that bubble, but as soon as the gum lost its flavor, I was back to pondering my mortality."

The stock market's advance since spring 2009 has all the hallmarks of a bubble. But the stock rally has sputtered thus far this year. Recently, it walked back a small recovery from a January selloff, and then ebbed again. The Dow Jones Industrial Average and the Standard & Poor's 500 are flat for the year and down slightly more than 1% since their recent peaks last month.

And there's likely to be more trouble ahead, as a 7% drop in the biotech and more than a 5% drop in the semiconductor sectors since March highs showed a "classic parabolic reversal," according to Peter Boockvar, chief market analyst at the Lindsey Group , an economic advisory firm. A parabolic reversal is a technical indicator that signals a change in an asset's momentum.

The "market selloff is a sign that the bubble created by the Federal Reserve's easy money policies is deflating," Boockvar told CNBC recently. " QE … enlarges the bubble, and once the air stops going into the bubble, the bubble starts to deflate again."

The Fed has held short-term rates near zero since the financial crisis, a policy that it only now is looking at slowly reversing. Until last October, the central bank bought enormous amounts of bonds in a bid to keep long-term rates low and pump money into the economy, a process called quantitative easing , or QE. So the Fed's stimulus is fading away, and the stock market - really the lone beneficiary of the Fed's pump priming - has gotten nervous.

Boockvar didn't once refer to the footballs used by the New England Patriots, but he noted that easy monetary policy does not create growth; it only pulls forward economic activity that would have happened on its own anyway.

So now he tells us. Would anyone seriously buy more than $3 trillion worth of bonds just to pull economic activity forward?

Referring to the current "rotten economy," he said that super low interest rates have accomplished one thing - enabling "zombie companies" to appear as though they are still alive by borrowing in a cheap debt market. We're glad to see that the walking dead are at least benefiting from Fed policy.

"There is no easy way out of this," according to Boockvar, "and if it means a recession, it means a recession. And if it means a pullback, it means a pullback. But I know looking out over the next five to 10 years, we've got to get out of this."

In other words, we're headed for a recession. And the Fed won't be much help, given that it's already driven interest rates down as low as they can go.

Boockvar didn't give any clues about how to "get out of this," but did say "We can get out of this if the Fed had any guts, but they don't," he said.

Maybe we'll finally find out what Fed Chair Janet Yellen means by " macroprudential supervision ." Apparently, this relates to the Fed's preventing future bubbles by closely regulating Wall Street. Maybe it's the secret fix we've all been waiting for. I wouldn't count on it though.

Our only other hope is for President Barack Obama to work with Congress to adopt pro-growth economic policies, rather than ceding responsibility for the economy to the Fed. Or maybe Obama will issue an executive order requiring the economy to grow faster.

If Fed stimulus was a temporary palliative that benefited stock investors for a while, why should we be optimistic?

Follow AdviceIQ on Twitter at @adviceiq .

Brenda P. Wenning is president of Wenning Investments LLC in Newton, Mass.

AdviceIQ delivers quality personal finance articles by both financial advisors and AdviceIQ editors. It ranks advisors in your area by specialty, including small businesses, doctors and clients of modest means, for example. Those with the biggest number of clients in a given specialty rank the highest. AdviceIQ also vets ranked advisors so only those with pristine regulatory histories can participate. AdviceIQ was launched Jan. 9, 2012, by veteran Wall Street executives, editors and technologists. Right now, investors may see many advisor rankings, although in some areas only a few are ranked. Check back often as thousands of advisors are undergoing AdviceIQ screening. New advisors appear in rankings daily.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Other Topics

Stocks Economy

Latest Markets Videos