Fed seeks ‘wealth effect’
by Paul Wiseman, Associate Press Writer and Martin Crutsinger, AP Economics Writer
September 15, 2012 12:00 AM | 945 views | 0 0 comments | 6 6 recommendations | email to a friend | print
Specialist David Pologruto works at his post on the floor of the New York Stock Exchange, as Federal Reserve Chairman Ben Bernanke holds a news conference in Washington on Thursday. No sooner did the Federal Reserve unveil a bold plan to juice the U.S. economy than it dangled the prospect of doing even more. Investors celebrated by sending stock prices jumping. Economists were less impressed. Many wonder how much the Fed’s action would help.
Specialist David Pologruto works at his post on the floor of the New York Stock Exchange, as Federal Reserve Chairman Ben Bernanke holds a news conference in Washington on Thursday. No sooner did the Federal Reserve unveil a bold plan to juice the U.S. economy than it dangled the prospect of doing even more. Investors celebrated by sending stock prices jumping. Economists were less impressed. Many wonder how much the Fed’s action would help.
slideshow
WASHINGTON — The Federal Reserve wasn’t just trying to drive down interest rates when it announced a third round of bond purchases Thursday.

It also wants to make people feel wealthier — and more willing to spend.

The idea is for the Fed’s $40 billion-a-month in bond purchases to lower interest rates and cause stock and home prices to rise, creating a “wealth effect” that would boost the economy.

And “if people feel that their financial situation is better because their 401(k) looks better or for whatever reason — their house is worth more — they’re more willing to go out and spend,” Chairman Ben Bernanke told reporters. “That’s going to provide the demand that firms need in order to be willing to hire and to invest.”

Sure enough, stocks have surged since the Fed announced plans to buy mortgage bonds as long as it feels necessary — a policy known as “quantitative easing,” or QE. And since Bernanke gave a speech Aug. 31 more or less confirming that QE3 was on the way, the Dow Jones industrial average has jumped more than 500 points, about 4 percent.

Stocks tend to rise when investors expect lower interest rates. In part, that’s because some investors shift money out of low-yielding bonds and into stocks, which are riskier but offer potentially higher returns. And lower rates can spark more spending and boost corporate profits.

Still, economists say the wealth effect from higher stock prices tends to be modest. And some caution that home prices might not rise much as long as many would-be buyers can’t qualify for mortgages.

In addition to the bond purchases, the Fed said it expects to keep short-term rates super-low at least through mid-2015, six months longer than it previously planned. And it said it would probably hold rates low even after the economic recovery has strengthened — a sign that it will intervene until the economy starts growing fast enough to reduce unemployment sharply.
Comments
(0)
Comments-icon Post a Comment
No Comments Yet
*We welcome your comments on the stories and issues of the day and seek to provide a forum for the community to voice opinions. All comments are subject to moderator approval before being made visible on the website but are not edited. The use of profanity, obscene and vulgar language, hate speech, and racial slurs is strictly prohibited. Advertisements, promotions, spam, and links to outside websites will also be rejected. Please read our terms of service for full guides