The on-again, off-again discussions of the next round of economic stimulus remains front and center for government and financial markets. While there is little debate between elected officials on IF a plan is needed; working out the particulars appears to be delaying the WHEN it could occur. 

Fiscal stimulus is used by governments to add money to the economy. In the U.S. we frequently issue Treasury bonds, which are then largely purchased by the Federal Reserve (Fed). From a government accounting perspective, the result is a larger government deficit and an increase to the Fed’s balance sheet. As a percent of the economy (gross domestic product, GDP), the Fed’s balance sheet is about 35%, as of August 2020. A level not seen since World War II (source: federalreserve.gov). As it has been said before, 2020 is an unprecedented year in many ways. 

At some point, government debt will need to be paid back. Methods for doing so are somewhat limited. Possible solutions; inflate (grow) our way out, spending reform, and tax reform. It is likely that a combination of methods may be deployed given debt levels.  

Specific to inflation, in late August, the Fed shifted their monetary policy to “average inflation targeting”. Subtle words with lots of meaning. The takeaway is that the Fed is more inclined to allow inflation to run higher than the former target of two percent in order to average two percent.   

Slow and steadily rising inflation can be fine for the economy as it can result in higher incomes and asset values, including stock prices, home values, among others. On the other hand, sudden inflation shocks can disrupt the economy. The Fed employs various tools to control inflation levels. To limit surprises, the Fed has recently been more vocal with its policy intentions.  

Additional Notes 

• Stock markets showed mixed results on the week; large U.S. companies were down slightly, led lower by the technology sector; smaller, value-oriented U.S. companies and emerging markets international however were positive 

• Third-quarter earnings season is underway, nearly 25% of companies have now reported results for Q3  

  • Of the companies that reported results, about 83% beat expectations (source: Factset, Inc) 

• U.S. 10-year Treasury bond yields have been increasing in recent weeks, now at 0.86%, which is the highest level since early July 

• Housing market strength continues with existing home sales higher than expected, September existing home sales were up 0.9% compared to the prior month (source: Factset, Inc) 

• Jobs data has been improving with initial jobless claims reports better than consensus; initial claims declined for the third time in the last four weeks and the lowest level since March (source: dol.gov) 

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