Easy Money Days are Far from Over

By Inya Ivkovic, MA — The Financial World According to Inya column

Bearing in mind Alan Greenspan’s fix for market trouble when the tech bubble burst a decade ago, I think that it is irresponsible to keep the easy money taps open for very much longer. To an extent, however, I also understand the conundrum that the Fed is facing right now. When the tech bubble burst in 2000, interest rates that were low helped the economy in the short term.
However, allowing easy access to even easier money for too long is now largely considered to be the main reason for the asset bubbles that sprouted since and eventually caused the Great Recession of 2008 and 2009.So why would Fed chief Ben Bernanke insist on keeping near-zero interest rates for “an extended period,” as he put it, when recent history warns otherwise? For starters, Bernanke fears that the U.S. economy is not yet ready for interest-rate hikes. In fact, he still sees
the U.S. economy as vulnerable to the possibility of tumbling right back into a recession.At the same time, inflation seems to be dormant, and the labor market is still very much in pain. Changing any variable too soon could mutate a widely expected U-shaped recovery into the much-feared W-shaped one. So, trying to soothe the collective anxiety of many economists about new asset bubbles, Bernanke said before the Congressional joint economic committee that “If those conditions cease to hold, and we anticipate changes in the outlook, then of course we will respond to that.”What are mainstream economists so afraid of? Since December 2008, the Fed has kept its key interest rate at the ultra-low range of between zero and 25 basis points. What they are afraid of is that the Fed will wait too long to raise it, just as it did in the aftermath of the tech bubble from 2001 to about 2004, and by waiting too long, the Fed also risks the creation of new asset bubbles — or worse yet, more debt bubbles of epic proportions, particularly in the home-mortgage market.Here is what Kansas City Fed President Thomas Hoening had to say recently on the subject: “I am convinced that the time is right to put the market on notice that it must again manage its risk, be accountable for its actions, and cease its reliance on assurances that the Federal Reserve, not they, will manage the risks they must deal with in a market economy.” And don’t think that Hoening is all words and no action. He had already voted twice this year against the majority of his fellow FOMC members who insist on keeping
interest rates at ultra-low levels.

There is no need to elaborate on the dangers of interest rates being low in the current context beyond Hoening’s words. He went directly to the heart of the problem: risk management and credit accountability.

So what of Bernanke’s reasoning to keep the easy money taps open for “an extended period”? He is absolutely right in his estimates that the U.S. economy is still very fragile, and he is right that the job market is a mess and the credit market is still very far from a spouting geyser.

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What leaves me anxious, and I’m not the only one, are other parts of the economy that are showing signs of recovery. For example, retail sales are rebounding, while manufacturers are clearing out inventories and getting new orders. Such disconnect coming from the inside has to be resolved before a real recovery can start, and that will not happen until the illusion of risk management and responsible credit are addressed.

How should risk and credit responsibility be addressed? By shutting down the easy money taps and by raising interest rates cautiously and gradually — starting now. It is as simple as that.