Thursday, May 2, 2013

How Quantative Easing Has Artificially Inflated Stock Prices

David Goldman explains. He also notes the consequences:

There’s another catch. It’s so easy to make money by levering up corporate balance sheets that there’s no incentive to invest in new plant and equipment. Bernanke’s cheap money policy was supposed to reduce returns to cash and bonds and force investors to take risks in real assets. It hasn’t worked out that way. It’s only encouraged investors to apply more leverage to existing assets. No investment, no jobs. That’s part of the reason employment refuses to recover. Another is Obamacare, which drastically increases the cost of new hiring for small and medium-sized businesses.

The rally is making Americans richer on paper but poorer in terms of income. Suppose you owned a portfolio of BBB-rated corporate bonds yielding 4.4% in June 2011, and sold it to buy stocks. Your stock portfolio would have gained 20% since then. If you sold the portfolio to buy bonds at the present yield of 3.2%, you would be able to buy 20% more bonds, so your portfolio would yield 1.2 X 3.2%, or 3.84% — less than you received before. In terms of income, you lost money by selling bonds to buy stocks back in June 2011. In fact, you would have lost on a current-income basis if you sold bonds to buy stocks on almost any day during the past five years.

Fed easing hasn’t brought about recovery. Government spending won’t bring about recovery. Supply-side incentives to investors (lower corporate and capital gains taxes in particular) and regulatory rollback, starting with Obamacare, are the only way out of this morass.

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