Throughout the market's rally over the past six weeks, I was reminded something Milton Friedman's once expressed, which I have taken the liberty of paraphrasing below to emphasize my concerns with regard to the efficacy of QE 2: If you put the Federal Reserve in charge of the Sahara Desert, in five years, there would be a shortage of sand.
We have embarked on a slippery slope of policy, and, from my perch, there is too much confidence regarding a favorable outcome.
Is it really a good idea to put our investment trust in the successful policy of the Federal Reserve in its ability to fine tune inflation and stimulate growth? After all, in the past the Federal Reserve couldn't find their way home and failed to identify the stock market bubble in the late 1990s, the housing bubble in 2003-07 and the recent credit bubble.
In a recent interview with Fortune Magazine's Carol Loomis, Warren Buffett said that he "can't imagine anybody having bonds in their portfolio." (I continue to believe that short bonds is the trade of the decade.) At the same time, Fed Chairman Ben Bernanke is hellbent on buying U.S. bonds ad infinitum. As my buddy/friend/pal, Jeff Matthews, recently wrote, Who do you have more confidence in making your investment decisions -- Berkshire Hathaway's (BRK.A - Get Report) Warren Buffett or the Federal Reserve's Ben Bernanke?
Most market participants are fixated with the potential for QE 2 to boost asset prices and generate organic economic growth, however, without a subsequent rise in aggregate demand and productivity, the program will ultimately be deemed a failure as prices readjust over time to reflect the real underlying fundamentals. Mr. Bernanke is making the same blunder that we made with the past bubbles busts -- if we can create paper profits and convince consumers that they should spend those paper profits, then we'll be on our way to economic prosperity. The problems arise when asset prices readjust lower to meet their true fundamentals. It's Ponzi finance and nothing more. -- " Northern Trust: QE 1 Failed, Why Will QE 2 Work?" from Pragmatic CapitalismAs I have written previously, I don't believe QE 2 will meaningfully move the needle of domestic economic growth and will only have a limited impact on:
- the jobs market, which is plagued by structural unemployment;
- housing, which that is haunted by a large shadow inventory of unsold homes and in which mortgage credit will likely be further reduced by the moratorium on foreclosures; and
- confidence, which is still mired in uncertainty regarding regulatory and tax policy (and that is undermined by high unemployment).