QE = Bubble Blowing

From Fed Governor Sarah Bloom Raskin’s recent speech titled Beyond Capital: The Case for a Harmonized Response to Asset Bubbles:

Here is one way a bubble might start. And, to approximate current economic conditions, we’ll assume an environment of interest rates that have been low, and continue to be low, for a long time. To start, retail investors may become dissatisfied with their low yields and begin to seek higher yields by purchasing some specific higher-yielding asset. If investors have access to credit, they might try to raise the return on their money by funding a greater portion of their purchases with debt. The asset purchased could serve to collateralize their loan. If many investors employ this strategy and they borrow to invest in the same asset, the price of that asset, and perhaps the prices of closely related assets as well, will increase noticeably faster than the historical trend.

Compare that to Ben Bernanke’s description of the Portfolio Balance Channel of QE (from Bernanke’s 2012 speech at Jackson Hole):

Thus, Federal Reserve purchases of mortgage-backed securities (MBS), for example, should raise the prices and lower the yields of those securities; moreover, as investors rebalance their portfolios by replacing the MBS sold to the Federal Reserve with other assets, the prices of the assets they buy should rise and their yields decline as well.

Not word for word but close enough for government work. QE is designed specifically to inflate a bubble. I don’t think the Fed had any particular asset in mind – heck any one would do – but read Ms. Raskin’s bubble description again and just ponder this:

I did a post on the rest of Ms. Rankin’s speech on my Off the Street blog at RealClearMarkets.