Alan Greenspan is a believer in the wealth effect: The idea that when the value of one’s assets grows, one feels confident and becomes a more active economic agent. Thus, if a given growth rate is to be achieved, asset inflation is a worthy objective.

Today’s Fed’s wealth effect enthusiasts—who, we may assume, constitute a voting majority—take responsibility (assuming Bernanke was speaking for his team a couple of years ago) for the bull market in stocks. I disagree. While I can’t deny that monetary policy has all but eliminated the stock market’s competition, were it not for the post-recession thrift of corporate America—leading to record profits in a tough environment—the Fed could’ve QE’d till the cows came home and we would not be seeing the major averages at these record highs.

Ben Bernanke, as I suggested, pointed to the stock market’s gains as evidence of the efficacy of modern Fed policy, and therein lies his problem. Since, in the Fed’s view, the wealth effect influences economic action—and that their own actions built this bull market—they have to be one nervous bunch right about now. With the market at an all-time high, and the pace of recovery at an all-time low, how on earth can they cut QE? In their minds an ill-timed taper would pull the rug right out from under the market, and, therefore, the recovery as well. 

But here’s the thing, they’re (I believe) wrong: they can absolutely cut QE—to the, alas, limited extend their stomachs will allow (they could have a long time ago)–without destroying the stock market and, with it, the economy. Sure, stocks (and bonds) may take a hit—yet, at the end of the day, QE infinity, as the critics call it, is not an option. The FOMC’s members, as Keynesian as they may be, have to know that the greater the QE the greater the risk that bubbles will form, then pop.

There was a time, I’m sure, when they all aspired to the status of Alan Greenspan. Those days, however, are over (the Greenspan Fed’s policies are widely believed to have been a major contributor to the “Great Recession”). And while they may outwardly agree with the basis of his denial (watch this Greenspan/Taylor debate), inwardly they have to know that the real estate and credit bubbles could not have formed (to the extent they did) without Greenspan’s ultra easy monetary policy.

My, therefore, what a sticky wicket they’ve gotten themselves into. On the one hand, they’re at the mercy of their belief in the wealth effect, and the asset inflationary (wealth) effect of QE. On the other, history is telling them that they must back off before their own policy destroys any semblance of a respectable legacy.

Wise long-term investors, unconcerned with short-term volatility, should wish for taper round one to begin next week. However, alas, I wouldn’t hold my breath…