Fed Primes Pump Again, but Well's Mostly Dry

Powerful forces muddy the Federal Reserve's monetary stimulus.

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Investors are delighted that the Federal Reserve has decided to dole out more monetary stimulus. But they don't necessarily think it will work.

Since 2008, the Fed has been trying a variety of things to boost employment and get the economy back on track. Its latest quantitative easing program—dubbed QE3—is an aggressive effort to force long-term interest rates, which are already near record lows, even lower. That, in turn, is supposed to stimulate demand for housing and other activity that benefits from low interest rates, which will make the economy grow faster, which will increase the need for workers to help companies meet growing demand for goods and services.

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That's the theory, anyway. The problem is that the transmission mechanism between low interest rates, housing, and jobs is clogged. So while the Fed's actions will directly jolt some parts of the economy—such as the stock market—the current simply may not flow to the corners where it's most needed. "Even if the Fed pushed mortgage rates down from current historic lows, the impact on GDP growth and unemployment would probably be imperceptible," forecasting firm IHS Global Insight said after the Fed's latest move.

One reason the Fed can't have a more direct impact on the housing market is that it can't control who gets approved for a loan. One thing the Fed is trying to do is put free money in homeowners' pockets by allowing them to refinance their mortgages at lower rates. But borrowers who are underwater on their mortgage, or unemployed, or underemployed, or who have impaired credit, typically can't get approved for a new loan. So while 30-year mortgage rates are now around 3.6 percent, the average rate mortgage holders are paying is around 5 percent—and some are still stuck paying even higher rates.

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The Fed also wants to motivate more people to buy houses, but it's limited there, too. Record-low interest rates do, in fact, spur buyers to act, but there are countervailing forces keeping a lot of potential buyers on the sidelines, such as reduced income, worries about job security, and the inability to get a loan. Underworked real-estate agents frequently lament that the only people able to get a loan are the ones who don't need the money.

As for creating jobs, the Fed obviously isn't an employment agency. Low rates are meant to stimulate business activity and make it easier for companies to spend, which in theory ought to boost hiring as the economy grows and the demand for goods and services increases. But that's not happening, either.

A lot of big companies are, in fact, growing--but mostly overseas, especially in places like Asia and Latin America. That's where big companies tend to be hiring, as well. In a mature, slow-growing economy like the United States, there's simply no need for more workers at a lot of companies.

Meanwhile, the technology revolution continues to give companies new ways to replace workers with more-efficient machines or software. Increased automation has been a hallmark of economic progress for more than 200 years, but it also tends to cause a lot of disruption, especially for those workers whose skills become obsolete. We're probably in the midst of an epochal shift right now, which means the Fed is battling forces that may be even more powerful than the levers of monetary policy.

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So overall, the Fed simply lacks the tools needed to reach deep into the housing and jobs market. In fact, no government agency may have such tools.

That doesn't mean quantitative easing is a failure, however, despite the rampant bashing by critics who feel the Fed has overstepped its authority and gotten too deeply involved in the economy. One thing Fed policies have clearly done is help repair the household finances of millions of families. The 2008 financial meltdown wiped out about $10 trillion worth of investments and other financial assets held by families. Since quantitative easing boosts the stock market, Fed policies have helped people with retirement accounts, investment portfolios, and other types of financial assets recoup many of their losses. The total amount of financial assets held by households, in fact, has finally eclipsed the peak prior to the bust in 2008. So the Fed has directly helped investors recover $10 trillion.

That's supposed to generate a "wealth effect" in which people feel better off, so they spend more freely and help the economy grow. Unfortunately, there are still too many other things going wrong for people to feel like they're getting ahead. The Fed has now vowed to keep fanning the economy until they do. At least stock-market investors will be happy.

Rick Newman is the author of Rebounders: How Winners Pivot From Setback To Success. Follow him on Twitter: @rickjnewman.