As I expected, Chairman Bernanke's speech in Jackson Hole, Wyoming this morning did not point directly to a third round of asset purchases, but it also did not close the door on further easing action. However, given that the speech stuck to an extremely conservative script, even for Mr. Bernanke, it is doubtful that any such action will occur before the November election.
Going line-by-line through the speech, it reads like a summary version of the lectures he gave at George Washington University earlier this year. Those lectures were intended to teach economics students about what the Fed has done to mitigate the crisis so far. This speech followed that same script and provided a bit more critical analysis of the success or failure of certain programs.
Although Chairman Bernanke did not evaluate any programs as a failure, he definitely signaled that large scale asset purchases (quantitative easing) has had a more positive effect on the economy than adjusting the forward guidance. This should be seen as a signal that Mr. Bernanke does not intend to simply adjust the forward guidance into 2015. More importantly, any claim beyond early 2014 before the November election is not credible because Mitt Romney would replace the chairman at the beginning of 2014, and a new chairman would not necessarily follow Bernanke's guidance statements.
Evaluating Monetary Policy
Chairman Bernanke's speech did include a cost-benefit analysis of non-traditional monetary policy tools. This portion of the speech was really the only section that provided any new information to markets beyond what Bernanke has said in the past. In particular, Bernanke said that additional large scale asset purchases could "impair securities markets" and that "substantial further expansions of the balance sheet could reduce public confidence in the Fed's ability to exit smoothly from its accommodative policies at the appropriate time." These risk assessments indicate that Bernanke sees the potential problems with further QE and will only act with QE if economic conditions deteriorate further.
Bernanke also discussed the curious fact that although QE has incentivized risk, Fed studies have "seen little evidence thus far of unsafe buildups of risk or leverage." Essentially, this means that although cash reserves have grown and interest rates are extremely low, most people and businesses have been deleveraging, not increasing their balance sheet risk. This lack of risk taking by market actors helps explain the extremely low velocity of money and suggests that the Fed might be exploring ways to increase that velocity without incentivizing undue risk. Surprisingly, Bernanke did not explore possible options for policies to increase the velocity of money. In particular, I expected him to examine a rate increase on bank reserves or an evaluation of the British "funding for lending" program. By not evaluating these programs specifically, he was clearly signaling the market that he has no intention of this type of action over the next couple months.
What to Expect
Although unique for a Fed chairman, it has become standard practice for Bernanke to identify the economic headwinds caused by irresponsible fiscal policy in the U.S. and continued turmoil and uncertainty in Europe. His reference to these problems was brief, but his continued frustration with them is obvious as he has indicated that he does not want the Fed to take further action, but if the economy weakens further, they will. This has been something of a mantra for the Bernanke Fed which continues to reluctantly take bold action and his willingness to do so has been enough to buoy markets, even without a clear signal that the Fed intends to act.
Bernanke's lack of enthusiasm for further action signals that the Fed does not intend to take policy steps before the November election. Perhaps more surprising about this speech, his lack of any evaluation of new policy steps indicates that Bernanke may not be planning bold action immediately after the election either. This means that investors counting on imminent stimulus should be disappointed, but their hopes are undoubtedly buoyed by Bernanke leaving open the door to further stimulus. As I predicted, this open door has already created a drop in the dollar value which will likely be short-lived since stimulus is not imminent and Europe's problems persist.
Ultimately, the take-away from Bernanke's speech is that stimulus is highly unlikely to happen before the end of 2012 and if it does happen, it should be read by the markets as a sign of further underlying economic weakness, not as a bull market rallying cry.