The latest to take up the refrain is Jaime Caruana, general manager of the Bank for International Settlements, who warned in an unusually frank speech in London that, while the ultra-low interest rates and ultra-easy monetary policy adopted by advanced economy central banks might have been the right response to the crisis when it broke, they are looking increasingly dangerous the longer they last.
“A vicious circle can develop, with a widening gap between what central banks are expected to deliver and what they actually can deliver,” Mr. Caruana said. “This may ultimately undermine their credibility and, with it, their legitimacy and effectiveness.”
Low rates may have helped keep banks alive and keep a roof over the heads of overextended borrowers—but they are threatening the ability of insurance and pension funds to meet their commitments, and tempting them into all kinds of wrong investment decisions in the meantime. Although he didn’t spell it out, he painted a picture of a massive and stealthy transfer of wealth from savers to borrowers.
His views also matter for another reason: the BIS is one of the few international financial institutions (some say the only one) to see the financial crisis coming and to issue clear warnings ahead of time.
“If you don’t get financial stability, you will not be able to get price stability,” he said in follow-up comments to his speech, making clear that he understood financial stability as something to be defined globally, not just in a single country or region.
“While additional unconventional measures may be appropriate in some circumstances, there may be diminishing returns, and benefits will need to be balanced against potential costs,” the IMF study said.
Some of the risks include greater risk-taking behavior that may undermine stability, delayed reforms and potentially volatile capital flows.
The IMF, like the Fed, also is worried about the impact on financial markets once central banks begin to sell assets. The IMF also sees the possibility of “political inference” should profits drop or diminish altogether during the tightening cycle.
The general manager of the Bank for International Settlements — an organization for central banks — made a similar warning in a speech in London.
“After five years of buying time, one has to ask whether that time has been – or will be – used wisely. Refocusing the policy mix to rely more on repair and reform and not to overburden monetary policy is crucial because the balance of risks of prolonged very low interest rates and unconventional policies is shifting,” said Jaime Caruana of the BIS. He also warned the global bond market crash of 1994 is a cautionary tale of the risks involved in exiting a period of low interest rates.
So-called margin debt hit $379.5 billion in March, the highest level since July 2007 when such debt hit an all-time record of $381.4 billion, according to the most recent data available compiled by the New York Stock Exchange.
The trend signals that investors are more comfortable with stocks and are more willing to use borrowed money to buy more securities in hopes of garnering fatter returns in a hot market that has pushed the Dow Jones industrials up more than 15% in 2013.
Why are investors so bullish? Because the economy is coming back? Because the future is rosy? Because stocks are going to earn even more?
Nah… What do you take us for, dear reader? We know the story. Stocks are going up because the Fed is making them go up. Here’s David Rosenberg in Canada’s Financial Post:
The US Fed has always been important in influencing trends in the financial markets, even if the economic effects have been far less than dramatic. This influence has actually strengthened in recent times to the extent that the correlation between the Fed’s balance sheet and the direction of the stock market, which was barely 15% before all these rounds of quantitative easings began four years ago, is 85% today.
Monetarists across the world have warned that the International Monetary Fund and the Bank for International Settlements are making an historic error by calling for a withdrawal of emergency stimulus before the global economy has fully recovered.