Call it the “Honey Badger Fed,” because it doesn’t care about your stock portfolio.
The latest meeting of the Federal Open Market Committee—the body at the federal reserve which makes decisions on setting interest rates—concluded on Wednesday. The U.S. Central bank decided to leave rates where they were, after raising them for the first time in nine years in December. And in its post-meeting statement, the central bank made no mention at all of the terrible start stock markets got off to this year, while making only a brief reference to what appears to be a sharp slowdown in growth in China that is helping to spook investors.
The Fed has good reason for it’s indifference, despite a widespread belief that it is very concerned about equity prices. There’s common belief that when stock markets rise rise, people tend to spend more because they feel wealthier, even if their income hasn’t gone up. In fact, this was one argument that former Fed Chair Ben Bernanke made himself in favor of his unconventional monetary stimulus policies launched in the wake of the financial crisis.
If stock market levels really do affect consumer spending, then then the nearly 12% decline in the S&P 500 since last summer would be cause for concern. Though employment growth has been strong of late, consumer spending has been disappointingly weak, and that added hit from a negative wealth effect could pose a problem for the broader economy.
But more recent scholarship has cast doubt upon whether moves in the stock market actually create a so-called “wealth effect” that causes people to spend more when the stocks are expensive and less when they’re cheap. The same goes for corporations. While large firms haven’t been shy about taking out debt over the past several years to take advantage of rock-bottom interest rates, they have mostly used those funds to raise dividends or buyback stock. When corporations actually decide to invest in their businesses, they by and large finance it using retained earnings, not debt.
But there is one asset class where evidence shows there is a wealth effect, and that’s the housing market. When housing prices are higher, people do really spend more, and spend less when home prices are cheap. This make sense when you think about it: a smaller percentage of Americans own stocks than own their own home. And even those of us who do own both stocks and a home, it’s likely that equity in your home makes up a much larger percentage of your net worth than what’s in your 401(k).
And the housing market is doing just fine, as evidenced by yesterday’s release of the latest reading of the Case-Schiller home price index, which showed that home prices rising 5.3% year-over-year nationally. The steady state of home prices dovetails with other data the Fed emphasized, like strong employment growth figures in recent months.
Markets, however, didn’t initially take this indifference very well. In the first hour after the Fed’s statement was released, already jumpy equity markets took a dive, with the Dow Jones Industrial Average falling close to 150 points in the first hour after the Fed’s statement.