The Changing Federal Reserve RoleSubmitted by Destination Wealth Management on October 10th, 2018
The markets have been extremely volatile as of late with the Dow closing down on Wednesday over 800 points. This volatility is likely related to concerns about interest rate policy and how that will impact corporate earnings. Federal Reserve policy impacts markets and sentiment. But what has changed lately? What is the change in the Federal Reserve’s philosophy as it relates to interest rates?
I was interviewed this week by a senior CNBC economic writer about my perspective on the Federal Reserve and recent comments made by various Fed members. Lately, Federal Reserve policy has been in the news not only because of an increase in interest rates, but because of the tone of comments made suggesting that the Federal Reserve intends on reverting back to its previous role; being a supportive rather than an interventionist input for the economy.
When the financial crisis dramatically impacted global economies in 2008, the Federal Reserve under Ben Bernanke became an interventionist institution taking the lead in stabilizing the economy and stimulating growth. For the next 10-years, the Federal Reserve has acted strongly including maintaining a very accommodative interest rate policy (including quantitative easing). Fed governors have consistently talked up economic growth in media interviews and speeches. This interventionist tendency has created a dependence by market participants on Federal Reserve policy and commentary.
We believe recent comments by the Federal Reserve discussing a return to a more supportive role is a change in tone that will continue to impact markets. The recent drop in equity prices suggests that many are not prepared for a change in behavior by the Federal Reserve. We believe it is naïve to expect the Federal Reserve to continue to be the primary driver of economic activity and expect further commentary to suggest the Fed will return to its more traditional role.
The net result for investors is that governmental policy will become a bigger part of the economic picture. Tax rates, infrastructure spending, and other actions by the legislative and executive branches of government will play a bigger role in economic growth. The Federal Reserve will be one component that impacts GDP but will now revert to a supportive rather than lead role. This will have consequences for investments and is another reason why we believe economic growth will ratchet down. A more sober view of economic growth is more reasonable given the posture of the Federal Reserve and this will impact the type of assets utilized in portfolio strategies.
You can find the article I am referencing here https://www.cnbc.com/2018/10/10/the-fed-is-undergoing-a-major-change-and-the-market-is-having-a-fit.html. Jeff Cox as usual does a very good job of highlighting an issue and describing why it is important to understand.
If you have any questions about this information, do not hesitate to let me know. We are always here to help and I am happy to answer any questions you might have.