EMH and the Fed, part 2

I finished the previous post with an implication about the Fed. The EMH basically assumes that all participants are profit seekers, and the Fed lives in a nebulous world when it comes to profit. They are, of course, extremely profitable, remitting $80 billion dollars to the US treasury in 2017, which is tens of billions more than the most profitable companies in the world pulled in. On the other hand they are literally allowed to print money and not making a profit would be difficult with that power. The man goal over at the Fed however is not to make a profit, it is to ensure ‘economic stability’.

It is a fairly straightforward proposition that any market inefficiencies created by the Fed are going to be proportional to the size of its interaction (that is interference from this point of view) with the markets, which is half of the reason that this topic is timely now. The Fed took previously unheard of positions in markets in an attempt to stabilize after the 2008 crash and introduced new programs like interest on reserves (IOR) which continue to influence the market now. 

The second half of the explanation is that the Fed also committed to actions during the 2008 crisis and that has set some level of path dependency for their future actions. While there were a few predictions prior to the 2008 crisis that the Fed would go to extraordinary measures in the event of a crash the particulars were thin. It wasn’t obvious how big the crash would be, how it would pass through the economy, what the Federal Government’s response would be and what the Fed’s choices would be within this context. The actual actions of the Fed have limited its possible courses for the next recession, and as i will go into further detail in future posts will set up a tension and possible showdown with the Federal Government at that time.

This is my first level reconciliation of the EMH and Austrian Business Cycle Theory, that the EMH is a strong and persistent force that generally makes beating the market difficult, but that monopolistic interventions in the market made (in this case) by the Fed can open up brief windows that will allow outsized gains to be made and that those gains are proportional to the size of the intervention. The size of the intervention has been large, and I will go into further detail about the conditions that will force the Fed’s hand in future posts.