Imagine the collapse of an extended speculative tech bubble, resulting in a broad economic recession.Imagine if the Federal Reserve had persistently slashed short-term interest rates during the downturn, to no avail, leaving rates at just 1% by the time the S&P 500 had lost half of its value and the Nasdaq 100 collapsed by 83%. Imagine that the Fed kept rates suppressed, in the initially well-meaning hope of encouraging lending, growth and employment. Imagine that the depressed level of interest rates made investors feel starved for yield, and drove them to look for safe alternatives to Treasury bills.
Imagine that investors found the higher yields they sought in mortgage securities, which had historically always been safe, and that Fed policy inadvertently created voracious demand for more of that debt. Imagine Wall Street had weak enough requirements on capital and underwriting standards that financial institutions had an incentive to create more “product” by lending to borrowers with lower and lower creditworthiness. Imagine that by the magic of “financial engineering” and lax oversight of credit ratings, Wall Street could pass these mortgages off to investors either directly by bundling, slicing and dicing them into mortgage-backed securities or by piggy-backing on the good faith and credit of the government by transferring them to Fannie Mae and Freddie Mac in return for funds obtained from investors in these “agency” securities.
Imagine that this Fed-induced yield-seeking speculation changed the dynamics of the housing market, and produced a bubble in home prices, coupled with overbuilding and malinvestment. Imagine that the Federal Reserve, focused exclusively on exploiting the very weak links between monetary policy and its “mandates” of employment and price stability, ignored the phrase “long-run” in those mandates, and wholly disregarded the speculative effects of its actions, which any thoughtful central banker should have viewed as a significant risk to the long-run economic health of the nation. Imagine that the then-head of the San Francisco Federal Reserve, Janet Yellen, answered questions about 1) whether speculative risks existed, 2) whether the Fed had any role in addressing them, and 3) whether there was any doubt that the Fed could halt a resulting economic downturn if it occurred, responding with a dismissive “No, No, and No.”
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We don’t have to imagine the above conditions coming true: we are already living with their consequences.
Imagine a world without central banks controlling corrupt governments.
David DeGerolamo
“Imagine a world with central banks controlling corrupt governments.”
I thought we already had that.
I corrected “with” to be “without”.
Not a problem. I thought it was one of those make you think questions.