By Tarunkumar G. Singhal Raman Jokhakar Chartered Accountants
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Reserve Bank of India governor Raghuram Rajan has added his voice to a steadily rising chorus warning of the heightened risks of a global market crash. Specifically, he says there’s a disconnect between the state of the economy and asset prices; that excessively accommodative monetary policy in the developed economies has led to asset bubbles; that competitive monetary easing is leading to beggar-thy-neighbour policies reminiscent of the Great Depression in the 1930s; that the recent low volatility masks many of the risks; and that not enough is being done in terms of improved regulation.
Rajan should know. He was one of those who predicted the financial crisis. At that time, he had said that among the reasons for the crisis were the skewed incentives for fund managers that led to excessive risk-taking. That hasn’t changed. Nor has the pervasive inequality in the US. Several economists have argued that the lack of growth in real wages was the underlying reason for the explosion of private sector debt that led to the financial crisis, as debt was substituted for income. The International Monetary Fund has warned that housing markets are once again getting overheated in several countries.
There have been half-hearted attempts at regulation, but it’s far from enough. The attempt has been to get back to business as usual, by papering over the cracks with money. As the Bank for International Settlements pointed out in its annual report last year, the role of accommodative monetary policy was to buy time to put reforms in place. Instead, it warned, “The time has not been well used, as continued low interest rates and unconventional policies have made it easy for the private sector to postpone deleveraging, easy for the government to finance deficits, and easy for the authorities to delay needed reforms in the real economy and in the financial system. After all, cheap money makes it easier to borrow than to save, easier to spend than to tax, easier to remain the same than to change.”
The worry is the bubbles seem to be getting larger and larger and we are still to recover from the bursting of the last one. And after using up all available ammunition on tackling the current crisis, how will the world deal with another bust?
Will the central banks be able to engineer a soft landing? The history of serial booms and busts casts serious doubts about that. Indeed, if history is any guide, the Chinese Communist Party’s record of steering its economy to a soft landing is much better than that of Western governments and central banks, although whether they will be able to handle their current crisis remains to be seen. The silver lining, if one may call it that, is that there is often a gap between the first warnings and the final bursting of a bubble. For instance, some had cautioned as early as 2004 that a bubble was in the making. And Raghuram Rajan’s famous warning at Jackson Hole was made in August 2005, two years before the crisis hit.
(Source: Extracts from an Article by Mr. Manas Chakravarty in the Mint Newspaper dated 11-08-2014)
