Asset bubbles likely to burst

In early 2006, on the eve of Ben Bernanke replacing Alan Greenspan as Federal Reserve chairman, The Economist ran a cover showing Greenspan and Bernanke running in a relay race. However, instead of having Greenspan pass Bernanke a baton, it had him pass Bernanke a stick of dynamite.

Two years into his term, Bernanke found himself having to deal with the bursting of a housing and credit market bubble, which precipitated the worst U.S. and global economic recession in the past 70 years.

Today, one has to wonder whether whoever might succeed Janet Yellen will also not be receiving a stick of dynamite. Under her four-year tenure at the Fed’s helm, she too has contributed to the rise in global debt levels to record highs and to the creation of dangerous asset price bubbles. She has done so through the maintenance of an ultra-easy monetary policy stance.

As Greenspan recently warned, the highly expansionary monetary policies of the past several years have given rise to a global government bond market bubble. He might usefully have added that this bubble has hardly been confined to the world government bond market.

Indeed, global equity price valuations are now at very lofty levels that have only been experienced three times in the past 100 years, while there are signs of bubbles in all too many housing and credit markets across the globe.

Sadly, it is all too likely that the global asset price bubble will burst well within the next Fed chair’s term. When that happens, one must hope that the Fed does not repeat its mistakes by resorting to yet another round of aggressive quantitative easing that will only set us up for the next boom-bust cycle.

Being so closely identified with the Fed’s past policies would seem to be reason enough to disqualify Janet Yellen for another term and to look instead to someone who might have drawn the right lessons from the Fed’s policy mistakes.

Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s policy development and review department.