Top 5 Insights on Municipal Bonds*

Eight Indications of a Muni Market Metamorphosis

Market View

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Investment Perspectives
Eight Indications of a Muni Market Metamorphosis

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Market View

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Market View

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Video Commentary

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*Most-viewed articles and videos for period September 9, 2012 – October 9, 2012.

That talk a decade ago offered a remarkable forecasting device. It explained how, in a dire situation, traditional monetary policy tools, even bringing short-term interest rates down to zero, might not produce enough stimulus, and it listed the "nontraditional" policies the Fed might employ, including: 1) the purchase of longer-dated securities in the Treasury, agency, and mortgaged-based securities markets; 2) the announced intension to keep short rates low for extended period; and 3) the technique of injecting liquidity to financial markets by accepting corporate bonds, bank loans, commercial paper, and mortgages, among other securities, as collateral for direct lending to banks. All these tools made appearances during the 2008–09 financial crisis and have lingered in its aftermath. A fourth technique Bernanke mentioned in 2002 would purchase the debt of foreign governments. This tool has yet to appear, but it might if there is any further deterioration in Europe.

Behind all of these measures, Bernanke's talk pointed to the growth of money and liquidity as the ultimate policy objective in order to get the economy moving and, in the specific context of his talk, to avoid deflation. He even alluded to running the "printing press" and the "electronic equivalent" to force funds into the economy and its financial markets. For a while, in this more recent period, that objective seemed to elude the Fed. Banks failed to lend, and money growth languished. But of late, the chairman has received his looked for responses. Federal Reserve statistics show that the narrow, M1 definition of money¹ has grown at a robust rate of about 11% during the last 12 months and has accelerated to about a 15.5% annual rate of advance during the past three months. The broader, M2 definition of money¹ has expanded at a strong rate of 6.3% during the last 12 months and held at a 6.5% annual rate of expansion during the last three months. Banks have begun to lend, too. Overall bank lending has expanded at about a 3.5% annual rate during the past three months, with the critical commercial and industrial component up at a 13.7% annual rate.

On this basis, Bernanke might easily have forgone QE3 or, at the very least, postponed it. But that same 10-year-old speech hints at why he made his bold move anyway. Back in 2002, Bernanke took comfort in important American advantages that would protect this economy from Japan's deflation and its other problems. The American financial system, he noted, was much better capitalized than Japan's, businesses and financial institutions had greater confidence, the U.S. economy was more flexible, and Washington had more fiscal options than Tokyo. But many of these advantages have dissipated since. The U.S. financial system is less resilient and less well capitalized than it was. After years of stubbornly high unemployment and a corporate sector that timidly holds huge cash balances in lieu of hiring and expansion, the economy, too, shows less flexibility and resilience. And it is plain that American fiscal policy has fewer options now than it did then.

Such comparisons no doubt introduced a sense of urgency into the Fed's decision to pursue QE3 now, despite other signs that might have counseled a less-aggressive approach. Still, such influences, and the decisions they have occasioned, should in no way suggest that America will go down Japan's path. Certainly, the recent growth in money and lending offers a welcome distinction from the Japanese experience. Neither are there signs of deflation in the U.S. economy. More, even Chairman Bernanke highlighted his confidence in the economy's recovery by highlighting the Fed’s ultimate need to unwind its remarkable policy measures. Underscoring that point still further, he even has outlined the risks if the Fed should fail to take such remedial action. But for the time being, his worries over weakness have created a clear bias on the side of the bold actions, much as he outlined almost 10 years ago.