Low Inflation Is Boosting Markets for the Wrong Reasons

It was only a few months ago that the U.S. Federal Reserve was intent on continuing to increase interest rates. But now, some policy makers are even hinting that the next move may be a rate cut, and they may even pursue other forms of policy easing despite equities reaching record highs again. If that is the message Fed Chairman Jerome Powell will provide at his press conference Wednesday following a two-day meeting with policy makers, it would spur equities to even greater heights and drive yields on Treasury securities even lower.

To see why this is a likely scenario, it helps to understand why the move toward further policy easing may occur. Maintaining healthy employment and stable inflation are the twin objectives of Fed policy. Since the 2008 financial crisis, three Fed chairs have attempted without success to reach and sustain a 2 percent inflation goal. They rationalized that near-zero interest rates and three bouts of quantitative easing would take the economy toward that target. But despite the Fed’s balance sheet having more than quintupled from $800 billion in late 2008 to a peak of $4.5 trillion by 2015, inflationary pressures have remained dormant.