Can The Fed Rescue The Consumer?

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A great many households learned to their dismay over the past decade that failing to prepare financially for a rainy day can be a roadmap to disaster. From the end of the 1970s, our society turned increasingly from prudent savers to borrowers and spenders. Credit cards became integral to our lives, and purchasing on credit became commonplace.

Dramatically loose credit from the Federal Reserve paved the path to financial profligacy. A quarter century bull market in stocks and the strongest bond market in U.S. history emboldened Americans to enter the new century with confidence and financial aggressiveness. Why save when the economy and the markets march inexorably higher? Certainly there’s no need for a financial margin of safety when businesses are growing and job security is not even a passing concern.

While the stock market crash from 2000-03 rattled that equanimity and brought doubt into the equation, our good friends at the Fed had a powerful antidote. The Fed’s easy money policy helped the stock market to recover, and we collectively began to upgrade our living conditions. As home prices rose, McMansions became the tangible trophies of those who prospered in a loose money, high debt environment. The turn-of-the-century stock market crash was soon viewed as an aberration in the powerful financial advance that had begun decades earlier.

A combination of greed, overconfidence and early success led a remarkable number of entrepreneurs to quit their jobs for the far easier and far more profitable employment as condo flippers. Unfortunately, virtually all of these would-be real estate magnates left their chosen field of battle with far thinner wallets. They might have preserved much of their wealth had they been able to draw parallels between their behavior and that of the ill-fated plungers who abandoned nine-to-five work for the glamor of day trading stocks just a half decade earlier.

The housing crash and a second-in-a-decade stock market collapse changed the attitudes of vast segments of the American populace. Financial conservatism replaced aggressiveness. The need to repair household balance sheets led many to abandon the stock market. In general, diminished financial wherewithal has prompted Americans to keep their wallets on the hip, and the economic recovery from the 2008-09 recession has been the weakest in the post-World War II era.

Holding short-term interest rates near zero, the Fed has admitted trying to force investors to accept risk with their assets, whether that’s appropriate for them or not. The Fed is simultaneously pushing banks to lend more and consumers to borrow more, seemingly oblivious to the immense irony that they are attempting to solve a problem caused by excessive debt by creating and promoting yet more debt.

While the need to shop aggressively seems to be deeply embedded in our genes, the Fed may be facing a sea change in American attitudes. Twice burned in this still-young century, investors may have pulled in their horns for years yet to come, despite the Fed’s support for common stock prices. As large numbers of baby boomers enter or move toward retirement, they may be coming to grips with the stark reality that it makes no sense to cut their margin of financial safety too thin.

Economists may be grossly overestimating the public’s spending resiliency in light of their diminished resources and the financial distress apparent in much of the world. The Fed may be putting future generations in severe financial danger, despite having no realistic prospect of rekindling immediate economic prosperity with its ongoing flood of newly printed money. The American consumer may have turned a page.