Harsh reality is about to pop central banks’ bubble over painless tapering
- Financial markets really seem to believe that monetary easing can go on forever without consequences. The beautiful bubble in which reality seems to be forever suspended will strike the craggy side of the equity and debt mountains it has created and pop
One witty commentator asked recently how you “un-bubble” a bubble such as the one we are seeing now in asset prices, stocks and real estate especially. The answer is that you do not. Either you pop it or it bursts spontaneously, although some bubbles float on for a while until they hit sharp reality.
The Fed is expected to begin tapering its monthly bond purchases by the end of this year while the European Central Bank, faced with rising inflation, is expected to be considering tapering. Some argue this does not mean they will start raising interest rates then, but this is a philosophy of false consolation.
Who will fund these increasing demands for funds? Why, the bond markets of course. But who will be the buyers in bond markets if the Fed and others are curbing their own voracious appetites? Private financial institutions will buy, but unlike the Fed they do not have a mandate to keep down interest rates.
They will demand yields, and that will put upward pressure on interest rates. Will the Fed then reverse itself and start buying big again? As Merryn Somerset Webb said in the Financial Times, “the developed world is in as hideous a monetary policy trap as it is possible to imagine”.
Financial markets really had begun to believe that monetary easing could go on forever and that there was no difference between bubbles and balloons – both could be blown up and then deflated again. Even now, markets do not appear to understand the difference.
The world needs a financial crisis now like it needs a hole in the head, at a time when the sky is threatening to fall because of Covid-19, the climate crisis is escalating, US-China tensions are mounting, Afghanistan is in crisis, terrorist threats are reappearing and so on.
But that is not where the future lies. We will need to get money back into real assets to meet massive real-world challenges. As observed here before, new vehicles for channelling investment into long-term projects to save the planet will need to be hybrids of public and private enterprise.
From the period of the “dot-com bubble” in the late 1990s through the aftermath of the 2008 global financial crisis and then in the wake of the Covid-19 pandemic in 2020, QE and QQE were undertaken to stave off systemic financial failure, economic recession and mass unemployment.
People recognised that the creation of financial asset bubbles along with rising debt levels that accompany a drop in interest rates, plus some distortion of bond and other financial market functions, could be among the consequences of rapid and huge monetary easing.
But this appeared – to some, at least, especially politicians motivated by the exigencies of the electoral cycle – to be an acceptable price to pay for staving off immediate and severe economic pain. In theory, all this could go on for longer, but the bubble looks close to bursting now.
Sadly, it cannot be painlessly “un-bubbled” like letting air out of a balloon at a measured rate. The beautiful golden bubble in which reality seems to be forever suspended will strike the craggy side of the equity and debt mountains it has created and pop.
Anthony Rowley is a veteran journalist specialising in Asian economic and financial affairs