EC The Fed Has Inflated Another Asset Bubble

It didn’t take long. Over the last several years, we have discussed the risk of excessive monetary policy inflating a bubble in a variety of assets from debt, to real estate, to stocks. In March, it appeared as if the bubble had finally popped. However, the Fed’s quick response and massive monetary interventions ceased the asset bubble’s deflation and reinflated it.

Another Bubble

The idea of another bubble was put forth recently by Jeremy Grantham of GMO fame:

“At GMO, we dealt with three major events before this crisis, and rightly or wrongly, we felt ‘nearly certain’ that we would be right sooner or later. We exited Japan 100% in 1987 at 45x and watched it go to 65x (for a second, more significant than the U.S.) before a downward readjustment of 30 years and counting. In early 1998 we fought the Tech bubble from 21x (equal to the previous record high in 1929) to 35x before a 50% decline. Through 2007 we led our clients relatively painlessly through the housing bust. 

In all three, we felt we were nearly sure to be right. Japan, the Tech bubbles, and 1929, which sadly I missed, were not new types of events. They were merely extreme cases akin to South Sea Bubble investor euphoria and madness. The 2008 event was also easier if you focused on the U.S. housing euphoria, a 3-sigma, 100-year event, or, simply, unique. We calculated that a return trip to the old price trend and a typical overrun in those extreme house prices would remove $10 trillion of perceived wealth from U.S. consumers and guarantee the worst recession for decades. All these events echoed historical precedents. And from these precedents, we drew confidence.

But this event is unlike all those. It is new, and there can be no near certainties, merely strong possibilities. Such is why Ben Inker, our Head of Asset Allocation, is nervous. and this is why you are worried or should be.”

Don’t Blame The Pandemic

While much of the media points to the pandemic as the “cause” of the economic problems, it isn’t.

COVID-19 was merely the “pin that pricked the bubble.” If the pre-pandemic economy were as strong as previously reported, it would have weathered the blow better. However, the 5-year average growth of wages, productivity, and real economic growth tells the story.

bubble, #MacroView: The Fed Has Inflated Another Asset Bubble

Consequently, the surge in the stock market over the last decade gave an “illusion” of prosperity, that “prosperity” was relegated to a relatively small portion of the broader economy. As noted recentlythe Fed’s policies are responsible for the “wealth gap.” 

“This isn’t surprising. A recent research report by BCA confirms one of the causes of the rising wealth gap in the U.S. The top-10% of income earners own 88% of the stock market, while the bottom-90% owns just 12%.”

bubble, #MacroView: The Fed Has Inflated Another Asset Bubble


Reliance On Debt To Solve A Debt Problem

The reliance on debt, or what the Austrians refer to as a “credit induced boom,” has reached its inevitable conclusion. The unsustainable credit-sourced boom, which led to artificially stimulated borrowing, created diminished investment opportunities. Those diminished investment opportunities lead to widespread malinvestments, which we saw play out “real-time” in subprime mortgages in 2008 and excessive “share buybacks” over the last few years.

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Gary Anderson 1 month ago Contributor's comment

Bubbles now are not inclusive of labor. Perhaps getting money into the hands of those folks would increase prosperity for all.

William K. 1 month ago Member's comment

The authors have certainly described the sequence of poor judgments and the unfortunate results and the projections seem reasonable.

I rally wish the author were wrong, but I don't think that they are.