Business Insider

Peter Crabb: The best incentives now are in lower-priced stocks

More power to you! Legislation now headed back to the House has more than just bailout money.

In addition to expanded borrowing authority for the FDIC the revised financial market rescue bill gives the Federal Reserve Board authority to pay interest on bank reserves.

This ability to pay interest directly to banks was originally planned to start in 2011.

Speeding up this authorization gives the Fed one more tool to address the current credit crisis. Banks are hoarding cash -- holding more reserves than required by regulators and not lending much.

In normal times, when the Fed wants banks to lend more, it goes out and buys Treasury bills, thereby lowering interest rates for banks and encourage lending. But in a credit crunch like this, banks and investors alike leave their money in cash (currency, coin, etc.) or short-term Treasury bills.

With everyone buying so many T-bills, there are fewer and fewer available for the Fed to buy. To offset this problem, the U.S. Treasury is auctioning off more and more bills (by some reports more than $400 billion) just to help the Fed.

This can’t go on long as the Treasury will eventually run up against the federal government debt ceiling.

The debt ceiling is there so that Congress must vote if the government is going to borrow more.

The new interest-on-reserves rule helps the Fed get past this.

By paying interest on reserves the Fed can move to increase liquidity in the banking system without the need for more U.S. Treasury borrowings.

Essentially, the Fed takes on more of its own liabilities, and its appointed governing body, the Federal Reserve Board, will have more influence over how much debt to take on.

The argument that we need new legislation to avoid a recession, and more Fed powers like this one, gained steam on Thursday when jobless claims grew to a seven-year high and factory orders dropped significantly.

The weekly payroll report Friday morning further suggests a weakening economy.

As always, the financial markets responded to news of economic conditions.

But for those investors who didn’t sell out, asset diversification worked again, as stocks fell but bonds rose.

There is little incentive, however, in these market conditions to hold cash or short-term securities.

Keeping your money in low-interest savings accounts may provide a sense of security but at a substantial cost.

The yield on three-month Treasury bills is now only about one-half of 1 percent.

Also Thursday, gold and oil prices dropped further, and the dollar rose strongly against the euro, all suggesting lower inflation expectations.

So there is apparently little reason to hold your money in the bank or stash it in hard assets.

If you have the time to wait, the best incentives right now are found in lower-priced stocks.

Hop on and enjoy the ride.

Since 2000, Peter R. Crabb has been a professor of finance and economics at Northwest Nazarene University in Nampa. He earned his doctorate in international and financial economics from the University of Oregon.