Fed: Economy Still Needs Life Support

Megan McArdle is a Bloomberg View columnist. She wrote for the Daily Beast, Newsweek, the Atlantic and the Economist and founded the blog Asymmetrical Information. She is the author of "“The Up Side of Down: Why Failing Well Is the Key to Success.”
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The bad news is that the economy is still looking a wee bit sickly. The good news, such as we find it, is that the Fed will not be dumping the patient onto the floor and telling him it's high time he got off life support. Translated into less metaphorical terms, that meansthe Fed is going to keep buying bonds over the near term, rather than tapering off its purchases as markets had feared. Stock in firms like Toll Brothers Inc. (a mega-developer of residential real estate) received a nice boost from the news; as a result, the value of your home probably went up a little bit, too.

But I wouldn't go taking out a home equity loan to buy new drapes. This just postpones the inevitable. Eventually, the Fed is going to have to slack off on the purchases of mortgage bonds -- and eventually probably means "before the economy is completely and totally recovered." As David Andolfatto of the St. Louis Fed explains in a long and excellent post that you should all go read immediately, the immense size of the Fed balance sheet (which has more than tripled since the financial crisis) poses certain risks. Further inflating the balance sheet increases those risks. The Fed has good reason to err on the slightly conservative side.

So any joy at the news from the Fed should be tempered by what this tells us about its thinking. Right now we're something like a heart patient who needs to begin a rigorous program of diet and exercise when he gets out of the hospital. The doctor just told us that we don't have to get on the treadmill yet. But what that also tells us is that the doctor thinks we're still pretty sick.

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To contact the author on this story:
Megan McArdle at mmcardle3@bloomberg.net