Why Asset Bubbles Involve So Much More Than Just Rising Prices
According to the Financial Times from October 18, 2020, senior Federal Reserve officials are calling for tougher financial regulation to prevent the US central bank’s low interest rate policies from giving rise to excessive risk taking and asset bubbles in the markets.
Eric Rosengren, president of the Federal Reserve Bank of Boston, told the Financial Times that the Fed lacked sufficient tools to “stop firms and households” from taking on “excessive leverage” and called for a “rethink” on “financial stability” issues in the US.
If you want to follow a monetary policy…that applies low interest rates for a long time, you want robust financial supervisory authority in order to be able to restrict the amount of excessive risk taking occurring at the same time,” he said. Otherwise “you’re much more likely to get into a situation where the interest rates can be low for long but be counterproductive.
According to the Financial Times, one of the fears among some Fed officials is that the US central bank could be forced to raise interest rates earlier than it would like if financial sector risks are not kept under control and dangerous asset bubbles emerge.
Lael Brainard, a Fed governor, said in a speech last month that expectations of extended low interest rates were “conducive to increasing risk appetite, reach-for-yield behaviour and incentives for leverage,” thereby boosting “imbalances” in the US financial system. She said it was “vital to use macroprudential” tools—meaning rules designed to curb risks—“as well as standard prudential tools as the first line of defense in order to allow monetary policy to remain focused on achieving maximum employment and 2 per cent average inflation.”
Monetary Bubbles and the Fed
While acknowledging that the low interest rate policy can encourage asset price bubbles, Federal Reserve Bank officials are nonetheless of the view that to prevent asset bubbles from becoming a threat to the economy there is the need to impose tougher regulations on consumers and businesses. In the Fed’s policymakers’ way of thinking it is the businesses and consumers who are responsible for the harmful effects of bubbles.
According to the popular way of thinking, bubbles are an important cause of economic recessions. The main q
Article from Mises Wire