International Monetary Fund warns on the bubble they encouraged! But has the horse already left the barn?


Yes, another blog post on the Fed’s failed monetary policy.  I hate to keep blogging on this particular issue, but it continues to be the major economic issue facing us.  Now that the effects of the easy credit bubble deflating are becoming apparent to everyone, including famed corporate takeover investor Carl Icahn, the IMF is warning the Fed not to raise interest rates, lest it

trigger a wave of emerging market corporate defaults and panic in financial markets as liquidity evaporates….The IMF said an “illusion” of abundant liquidity may have encouraged “excessive risk taking” by some investors that could cause market ructions if many investors suddenly rushed to the exit.  “Even seemingly plentiful market liquidity can suddenly evaporate and lead to systemic financial disruptions,” the IMF said.  “When liquidity drops sharply, prices become less informative and less aligned with fundamentals, and tend to overreact, leading to increased volatility. In extreme conditions, markets can freeze altogether, with systemic repercussions.”

But did not this “abundant liquidity” come from the Fed?  And who was a cheerleader for global easy money, which resulted in low interest rates in the US, driving “hot money” to higher yielding emerging markets in search of return?  Was it not inevitable that at some point interest rates would normalize?  Was it not inevitable that the reversing financial flows would cause the problems the IMF suddenly seems to realize?  Yes, the IMF has been a cheerleader.  Consider the following reports from the IMF:

In 2010 the IMF said

Monetary policy should remain accommodative because of muted inflation, subpar growth, and lingering financial strain. The Fed has maintained the policy rate at a record low while signaling that conditions are likely to warrant keeping the rate at exceptionally low levels for an extended period. In light of larger downside risks, the Fed’s recent decision to resume its purchases of government securities (using resources from maturing government-sponsored-enterprise debt and mortgage-backed securities in its portfolio) is appropriate.

The same song played in 2013 at the IMF,

Given the sizable economic slack, slow employment recovery, and stable inflation expectations, the accommodative monetary policy stance continues to be appropriate. Any unwinding in monetary policy accommodation should be guided by the strength of the recovery, while considering other potential issues such as inflation and financial stability challenges. Careful calibration of the timing of exit, and effective communication about the strategy, will be critical to ensure a smooth normalization process and to minimize risks of negative global spillovers. If financial conditions tighten further and threaten to derail the nascent recovery, the Federal Reserve may need to ease monetary policy conditions through forward guidance or changing the timing and extent of the tapering

And yet again in 2014, the IMF said

Monetary policy should manage the exit from zero interest rates in a manner that allows the economy to converge smoothly to full employment with stable prices while containing risks to financial instability, which, if they materialized, could have negative global spillovers. Financial stability concerns arising from a prolonged period of very low interest rates should be addressed with tightened supervision, stronger prudential norms, and strengthening of the macroprudential framework.,

Really?  More regulation is going to solve the mess they have created?  The only thing that is clear is that for the IMF, never is a good time to normalize interest rates.  Nevertheless they are correct in their concern over the systemic threat by a reversal of financial flows from emerging markets to the US.  The pain in Brazil, Turkey, China, etc. is only beginning–when you blow up a really big bubble, it usually ends in signficant pain.  This feels strangely akin to the ’97 Asian financial crisis, which resulted in significant pain across most of Asia as US “hot money” left Thailand, Malaysia, etc. and returned home.  Unfortunately there is not a good solution to the mess they’ve made…but the best plan surely cannot be to kick the can further down the road.

Further, as we’ve argued previously, it is not clear that simply keeping interest rates low will stem the flow of capital back to developed markets.  Without significant new infusions of liquidity, the bubble will deflate on its own w/o pricking.  Indeed, that is what I believe is happening now.  The commodity boom is over for this cycle, and it will be very hard to put Humpty Dumpty back together again.  Keep your crash helmets on.

8 thoughts on “International Monetary Fund warns on the bubble they encouraged! But has the horse already left the barn?”

  1. Any specifics?

    I’m talking about specific predictions regarding specific effects?

    Gold prices? Inflation rates going forward? Oil? Interest rates?

    Anything more specific than what Chicken Little offered?

    “The commodity boom is over for this cycle”. You DO know that the peak was almost five years ago.
    I trust you didn’t just get the memo!

    1. No I don’t offer any specifics; as Mark Twain said, history doesn’t repeat itself, it rhymes. Anybody who tells you they know specifically what is going to happen, especially specifically WHEN it is going to happen, should be believed about as much as those that claim they know the day that Jesus will return.

      As far as the peak to the commodity boom, I was referring more to the collapse in oil prices which undergirds much of the bubble build up, from Brazil to North Dakota. But you are correct, Dr. Copper and the Midas metal peaked earlier.

      But, as usual, you never comment on the substance of the post. This blog is not about providing specific investment advice–my focus here is on the role of the cheerleading IMF. Do you have any comment on their counsel? Do you also agree that we should have kept rates at near zero for so long, and that now we should not raise them?

  2. In all kindness, I didn’t see a lot of substance here, other than the usual bubble-talk and complaints about central bankers.

    As if rising asset prices is necessarily evidence of a bubble. Austrians CONSTANTLY see bubbles (except usually in precious metals). Perhaps they should see an opthamologist.

    What is the evidence that interest rates were kept too low for too long? You really did not offer anything of substance here.

    If you believe that interest rates are “too low,” I would ask, “How do you KNOW that? ”

    If interest rates are too low, then you MUST have some preferred, even “natural” level in mind. What is that level?

    If you cannot articulate that level, then you have no reason to claim that they are too low. Too low compared to what?

    I am all for recycling, but not that of doom-and-gloom Chicken Littleisms.

  3. Jeff,
    You say “If you believe that interest rates are “too low,” I would ask, “How do you KNOW that? ” If interest rates are too low, then you MUST have some preferred, even “natural” level in mind. What is that level? If you cannot articulate that level, then you have no reason to claim that they are too low. Too low compared to what?

    I will answer your question–provided you answer the previous question I asked you: Do you agree with the IMF that the US should keep rates at near zero? If you disagree with the IMF, I’d be interested in your theoretical reason for why you disagree with them.

  4. Despite the fact that the Fed should raise interest rates, they probably will not do it. The IMF and the Fed in general are too worried about the adverse effects that this could have on the global economy. I still find it interesting that one of the Fed’s reasons for refusing to raise interest rates is due to slow economic growth. The slow economic growth is partially due to their interest rate policies, which do not stimulate investment in the private sector. And of course, it is very evident that more regulation would not solve this problem, it would only make the economy worse off than it already is.

  5. It’s not surprising the IMF is nervous about the adverse affects of raising interest rates. However, I’m more nervous about what will happen later if we don’t deal with the consequences of the issue now. Do you have any ideas on possible outcomes of delaying this and the perceived benefits the IMF and Fed argue for when it’s evident the economy is suffering from slow growth due to their policies?

  6. If the Fed were to actually raise interest rates, would they ever be able to put them back down again? And how can they know if it would help the slow economic growth? It seems like those are questions that the Fed and IMF are both thinking about in this situation.

  7. The only thing I know for certain is when the Federal Reserve decides to increase interest rates, whether it is tomorrow or several years down the road, there will be adverse effects all around the world. But my question is should we allow the fear of this pain postpone its coming? Would we not be better off increasing interest rates now and move forward with beneficial monetary policy? I believe that postponing the day when the Fed increases interest rates is preventing our country from overcoming the predicted adverse effect and moving past what we have experience the last 7 years or so. The Fed needs to follow a phase that my father always told me growing up, “there will be short term pain for long term gain.”

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