Monetary Policy Exaggerating Economic Growth

August 15, 2016

 

            One can always argue that there exists an inner motivational state that discredits the process of logical reasoning in terms of investors seeking yield. Sometimes the persistent belief of a continuous rising market is credited to a delusional belief in the face of evidence that is exemplary from the primitive mode that conflict doesn’t exist between animal instinct and survival. However, there’s always a delusional condition towards a rising trend that is associated with the emotional state perpetuating the trend itself.

 

            This relies on the severity of other investors jumping into the market with enthusiasm and contributing to the delusion of a rising market. When ordinary common investors enter the market and lose part of their investment, a delusional depressive response sets in to recover the investment.

 

            The primary focus therefore turns into the recovery of capital for the losing investor. However something else comes into play: paranoia. This becomes a secondary function that relies on the investor purchasing more shares at a lower cost to minimize their losses, providing of course that the market systematically rises. If that doesn’t work then the market becomes schizophrenic and continues to systematically decrease.

 

            The phase of decline elicits total capitulation at whatever cost the certificate of a stock provides. The scenario also plays havoc with the Fed’s mind frame of irrational exuberance. Monetary policy should play a role in the regulation of asset prices and asset bubbles. As the severity of asset bubbles increase, the financial and economic effects become highly unstable and result in long-term deteriorating effects on the global economy.

 

            The only solution is to use an exaggerated approach to monetary policy to successfully counteract the effects on current output growth, aggregate spending, and expected inflation. The US Federal Reserve was aware that a bubble was forming in the 1990s and had numerous occasions to raise interest rates to essentially ‘deflate’ the bubble. However, even as the evidence became quite clear in 1998, the Fed still failed to react. The outcome of the Fed’s inertia was a large economic decline in the early 2000s that set up an even larger asset price bubble to come.

 

            What’s more alarming is the Fed’s decision to not use monetary policy as the growth of regional housing bubbles continues to increase. The Fed has explicitly warned that these housing bubbles pose a threat to the national savings rate and the US current account balance, yet they still fail to react due to their skepticism of whether or not they should use monetary policy to calm the bubbles.

 

            Maybe Alan Greenspan is more correct than Janet Yellen? It may just have to do with his experience of previously being skeptical about raising interest rates due to their undesirable effects that slow down the economy. In August of 2016 Alan Greenspan stated, “We’re in trouble basically because productivity is dead in the water … Real capital investment is way below average. Why? Because business people are very uncertain about the future. The regulations are supposed to be making changes of addressing the problems that existed in 2008 or leading up to 2008.”

 

            The problem with today’s economy is that the same euphoria imbued with investors seeking yield also becomes the conventional wisdom of the US Fed in sustaining a delusional market with minimal fundamentals holding it in place. Before the bubble becomes too large, monetary policy should be tightened even though it implies that expected inflation is below targeted inflation in the short-run. This policy is optimal because the adverse long-term effects of a large asset price bubble are successfully moderated through the supervision and regulation of the Federal Reserve.

 

            What the Fed managed to accomplish is monetary entitlement for the financial elites. Nothing has changed: 13 Nobel Laureates warned that there would be long-term effects stemming from Britain leaving the European Union. A spokesman who was voting for Britain to leave stated, “The biggest myth in this campaign is that money that funds our universities, our farmers comes from a magical money tree in Brussels. There is no such thing as EU money – it is all paid for by British taxpayers as part of the 350 million GBP sent to Brussels every week.”

 

            This spokesperson gave the European Union a dose of practicality rather than a delusional world sustained by the printing of money. It’s always best to burst small bubbles where the effects are short-lived. What we have here is a global mega-bubble growing in spite of Greenspan’s harsh predictions.

 

 

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