Fed Watch: Policymakers Take GameStop In Stride, Keep Eye On Bigger Picture

The big financial news last week was the Reddit-led short squeeze of GameStop (NYSE:) shares. Some of the mainstream financial press thought it changed the world forever. A black swan had raised its ugly head and the sky was falling.

Maybe. But Fed Chair was notably unflustered during his press conference last Wednesday as the momentum was building.

Financial Vulnerabilities Moderate Overall

“I would say that financial stability vulnerabilities overall are moderate,” Powell said when he was responding to a question about loose money fueling asset bubbles like and GameStop, noting that he wanted to provide some “context.”

The context was that we are in the midst of a global pandemic that has cost millions of jobs in the U.S. and led to a sharp decline in production. The Fed has jumped in and pumped trillions into the economy, just as it did in the financial crisis, to fill the gaping hole left by these shocks.

For Powell, it was much more the prospect of COVID-19 vaccinations and fiscal stimulus that was driving some asset bubbles. The Fed looks not only at asset values, but at bank leverage, non-financial leverage, and funding risk. Powell said:

“Our overall goal is to assure that the financial system itself is resilient to shocks of all kinds, that it’s strong and resilient.”

Adding:

“I think that the connection between low interest rates and asset values is probably something that’s not as tight as people think, because a lot of different factors are driving asset prices at any given time.”

No one would like to see dozens of hedge funds go bankrupt because they got caught out by a gang of young retail investors, but for the few that are on the ropes for getting caught in the short squeeze, most of us probably feel like they deserve what they got. Maybe they will be more cautious next time.

Stock markets tanked during the week, but analysts attribute the decline to hedge funds unloading big caps to cover their short positions, and some Wall Street concerns about Robinhood or other brokers creating a Lehman Brothers-like implosion.

Virus, Slow Vaccination Rollout Of Greater Concern

At the two-day Federal Open Market Committee meeting last week, Fed policymakers were more worried about the slow vaccination rollout and the impact of the virus on the economy. 

“The pace of recovery in economic activity has moderated in recent months, with weakness concentrated in the sectors most adversely affected by the pandemic,” the FOMC said in its amendments to the December , using Fedspeak to say things have gotten worse.

For Powell, this means that both asset bubbles and inflation are lesser concerns than people getting back to work and rebuilding their lives. 

“Frankly we welcome slightly higher, somewhat higher inflation,” he said at the press conference. Adding:

“The kind of troubling inflation people like me grew up with seems unlikely in the domestic and global context we’ve been in for some time.” 

San Francisco Fed chief echoed these concerns, saying it would be a mistake to withdraw the central bank’s monetary support for the economy too soon, just because some people are making money in the stock market.

“We’re building this bridge, which is barely having many communities hang on, and the stock market is running pretty good and many people who already have money are getting more money,” she said at a virtual event for the Stanford Graduate School of Business. 

“I am not willing to pull that bridge away and injure, in my judgment, the livelihoods of people—because they don’t have jobs, they don’t have income, they don’t have wage growth—simply to ensure that some people who already have stock market wealth don’t get more.”

Daly rotated into a voting position on the FOMC at this first meeting for 2021. Predictably, there were no dissents from the 11 voting members as the five new voters kept a united front.

Former Fed Chair Janet Yellen was confirmed as Treasury Secretary as expected and everyone expects this will be a new era in Fed-Treasury cooperation because Powell and Yellen used to have offices next to each other.

Also, Powell’s term as chairman ends in a year, and Yellen will no doubt have a word to say to President Joseph Biden about whether he should be reappointed.

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