Rising Stock Prices and the Economy

On February 18 I wrote a post concerning Alan Greenspan's comments regarding the stock market "as a stimulus."

In this post, I would like to highlight comments made by Federal Reserve officials (Bernanke and Sack) as well as another made by Greenspan, as I believe that these official comments regarding the stock market's "wealth effect" and related themes deserve recognition and scrutiny.

From Bernanke's November 4 Washington Post Op-ed "What the Fed Did and Why...", in which he is commenting upon the Fed's plans to buy $600 Billion in long-term Treasuries (i.e. QE2):

"This approach eased financial conditions in the past and, so far, looks to be effective again. Stock prices rose and long-term interest rates fell when investors began to anticipate the most recent action. Easier financial conditions will promote economic growth. For example, lower mortgage rates will make housing more affordable and allow more homeowners to refinance. Lower corporate bond rates will encourage investment. And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion."

From Brian Sack of the New York Fed, in an October 4 speech titled "Managing The Federal Reserve's Balance Sheet" :

"Nevertheless, balance sheet policy can still lower longer-term borrowing costs for many households and businesses, and it adds to household wealth by keeping asset prices higher than they otherwise would be."

From Alan Greenspan's “Activism.” (pdf) :

"Equity values, in my experience, have been an underappreciated force driving market economies. Only in recent years has their impact been recognized in terms of ‘wealth effects’. This is one form of stimulus that does not require increased debt to fund it. I suspect that equity prices, whether they go up or down from here, will be a major component, along with the degree of activist government, in shaping the U.S. and world economy in the years immediately ahead."

My comments:

I could write extensively about this collection of comments. For now, I will say that until recently, the idea of prominent Federal Reserve officials publicly talking of the stock market as an instrument for creating a "wealth effect" would have seemed rather foreign. I see considerable peril, for a variety of reasons, in having officials make these types of comments.

Can an asset class such as the stock market be reliably counted upon as a means unto itself to create sustainable, broad-based wealth? Especially if, as I believe, the stock market is currently a bubble? I think we should reflect upon our (national) experience in housing before answering this question.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.