What Should Be Done About Market Bubbles?
Now stay with me on this one… while enjoying a yodel down memory lane thanks to "The Sound of Music" I was struck by the relevance of the following:
"How do you solve a problem like Maria? How do you catch a cloud and pull it down?"
Substitute one word and you have a relevant market dilemma. How do you solve a problem like a bubble?
In front of the Financial Crisis Inquiry Commission Former Fed President Alan Greenspan admitted last week that he was wrong 30 percent of the time. But he didn't know whether keeping interest rates so low over the past decade was one of those times.
But before we blame Greenspan for the past bubble and bust, it is worth reiterating that of course there was a lot of blame to go around in this area.
Take your pick from generous central bankers, creative investment bankers, over-zealous mortgage lenders, Government Sponsored Enterprises, conflicted ratings agencies, sleepy investors, brainwashed media – oh and the Chinese! (That is if you follow Greenspan's argument that their buying of Treasurys kept long term rates low.)
William Dudley at the Fed says central banks should focus more on regulation to prevent bubbles than on interest rate policy. But will politicians ever really clamp down on bubbles? Can we really spot bubbles? Who will identify the bubbles? Should we do anything about them, and what are the effects if we do?
Perhaps regulators should look east for inspiration as Chinese authorities look to clamp down on lending in their market. Some investors believe that the Chinese property market is in bubble territory right now and it could represent an interesting test case.
If any government has the tools to burst a bubble it's the Chinese!
While we are on the subject of bubbles, many investors are telling us that they see bubbles closer to home. Many wonder if demand for government debt can be maintained as budget deficits remain in focus.
Could the Greek tragedy be played out elsewhere? This is one bubble that governments have the power to burst, but they might not want to.
So while Capitol Hill wraps up its financial crisis "stage show," investors are already looking for the next crisis which, as ever, looks likely to be the same but different.