“We have to turn the page on the bubble-and-bust mentality that created this mess,” President Obama stated authoritatively in his weekend radio address… but do not get too excited by the possibility of a real end to the Keynesian experiment and a return to ‘free’ markets for the President, in his oh-so-not-trying-to-start-a-class-warfare-battle way, blames bubbles not on Central banks (who have done “an outstanding job”) but on the skewed distribution of income. As Bloomberg reports, Obama states “When wealth concentrates at the very top, it can inflate unstable bubbles that threaten the economy.” The problem with his way of thinking is best described by the status quo defender Sarah Bloom Raskin who offered up this insight into what the manipulation of market interest rates gives us, “asset bubbles are a feature of our financial landscape.” So there it is, a feature (not a bug) that the President wants to get rid of (and yet wants to maintain the illusion that unrealized profit (and debt) is wealth).
Obama this month spoke four times in five days of the need to avoid what he called “artificial bubbles,” even in an economy that’s growing at just a 1.7 percent rate and where employment and factory usage remain below pre-recession highs.
“We have to turn the page on the bubble-and-bust mentality that created this mess,” he said in his Aug. 10 weekly radio address.
“Clearly, this is a growing concern both in the administration and at the Fed,” said Adam Posen, a former member of the Bank of England’s monetary policy committee.
While economists are more concerned with inadequate growth, there’s reason for vigilance. Thanks to low borrowing costs, U.S. companies have issued $241 billion in junk bonds this year, more than twice the amount during the same period in 2007; investors’ use of borrowed money to buy stocks is up about one-third in the past year to a near record, and housing prices are surging in areas such as Las Vegas and Phoenix.
U.S. stocks also are near record highs
Republicans and firms such as Pacific Investment Management Co., manager of the world’s largest bond fund, have criticized the Fed for fueling potential bubbles with easy credit and through its asset-buying program known as quantitative easing.
Obama doesn’t share that criticism, saying in June that Bernanke has done “an outstanding job.” The president sees bubbles arising from other causes. Chief among them: an increasingly skewed distribution of income.
“When wealth concentrates at the very top, it can inflate unstable bubbles that threaten the economy,” the president said
Narrowing the rich-poor gap is “my highest priority,” Obama said
he wants a Fed chairman who “makes sure that we’re not seeing artificial bubbles.”
Some investors, such as Mohamed El-Erian, Pimco’s co-chief executive officer, argue that a bubble may be emerging. “We see artificial pricing in virtually every asset class,” he said.
A prolonged period of low interest rates, of the sort we are experiencing today, can create incentives for agents to take on greater duration or credit risks, or to employ additional financial leverage,” Stein said.
Sarah Bloom Raskin, a Fed governor nominated by Obama to be deputy Treasury secretary, highlighted the need for regulatory policy to prevent the emergence of asset bubbles and make the financial system more resilient.
“Asset bubbles are a feature of our financial landscape,” she said at a Washington luncheon in July. “What happened before could happen again.”
Here is the President’s view on the boom-and-bust bubble cycle from 4 years ago (before they blew yet another gigantic bubble in stocks, bonds, real estate, etc..)
“Most of all, I want every American to know that each action we take and each policy we pursue is driven by a larger vision of America’s future — a future where sustained economic growth creates good jobs and rising incomes; a future where prosperity is fueled not by excessive debt, or reckless speculation, or fleeting profits, but is instead built by skilled, productive workers, by sound investments that will spread opportunity at home and allow this nation to lead the world in the technologies and the innovation and discoveries that will shape the 21st century… This recession was not caused by a normal downturn in the business cycle. It was caused by a perfect storm of irresponsibility and poor decision-making that stretched from Wall Street to Washington to Main Street… .Everybody was making record profits — except the wealth created was real only on paper. And as the bubble grew, there was almost no accountability or oversight from anyone in Washington… we have to realize that we cannot go back to the bubble-and-bust economy that led us to this point.”
President Barack Obama April 14, 2009
And some additional thoughts from Jones Trading’s Mike O’Rourke on the bubble-watcher-in-chief and the rise of Larry Summers as front-runner for Fed Chairman…
On several occasions over the past 6 months, we have noted that the cornerstone of the President’s and Federal Reserve’s recovery strategy was the exact opposite of what the President promised following his election. The condensed version of the President’s promise was one of better jobs and rising incomes but more importantly, he wanted to avoid a recovery fueled by speculation and debt. The President’s tagline was “…we have to realize that we cannot go back to the bubble-and-bust economy that led us to this point.”
Without question, the Fed has pursued an ultra-easy monetary policy for nearly half a decade. By the end of the year, a 5 year chart of the Fed Funds target rate will simply be a straight line across at 25 basis points, and low rates are far from being the easiest part of the recovery policy. Today we live with a recovery in financial asset prices that far exceeds the rest of the economy. The reason we bring this up today is that Bloomberg published a story titled “Obama Focuses on Risk of New Bubble Undermining Broad Recovery.” [see above]
The article notes that the President “spoke four times in five days of the need to avoid what he called- artificial bubbles.” In addition, it highlighted many of the signs of heightened risk taking we have mentioned in recent months. Most of these recent comments the President has made have centered around the selection process for the next Fed Chairman. As the Bloomberg story also notes, the President has stated he believes income inequality is a driver of asset bubbles.
In a speech 3 weeks ago, he stated “Even before the financial crisis hit, we were going through a decade where a few at the top were doing better and better, but most families were working harder and harder just to get by. And reversing that trend should be Washington’s highest priority. It’s my highest priority.”
As most people can deduce, we suspect this line of discussion is intended to lay the foundation for a Summers led Federal Reserve. We envision the story of the appointment will go something like this – Chairman Bernanke was the right person for the past 8 years and to lead the nation out of the Great Recession, but now is the time for a new direction in policy to make sure we don’t repeat the mistakes of the past.
Needless to say, we already believe many mistakes have been repeated making the unwind far more challenging than the President expects.
And of course, its all blatant hypocrisy, as here is a Pew Research Center report showing that income inequality grew during the recovery.
The key takeaway is that “mean net worth of households in the upper 7% of the wealth distribution rose by an estimated 28%, while the mean net worth of households in the lower 93% dropped by 4% .” Pew cites the rally in financial assets as the key reason for it. “These wide variances were driven by the fact that the stock and bond market rallied during the 2009 to 2011 period while the housing market remained flat.” According to Pew, “Among households with net worth of $500,000 or more, 65% of their wealth comes from financial holdings, such as stocks, bonds and 401(k) accounts, and 17% comes from their home. Among households with net worth of less than $500,000, just 33% of their wealth comes from financial assets and 50% comes from their home.”
In the President’s own words from 2009, “It’s not sustainable to have an economy where the incomes of the top 1 percent has skyrocketed while the typical working household has seen their incomes decline by nearly $2,000. That’s just not a sustainable model for long-term prosperity.”
What it is meant to highlight is that the Fed is making the same mistakes it did a decade ago.
The Pew Report highlights how little the policy has benefitted the population.