Financial markets exist to manage risk and allocate capital accordingly. Unfortunately, Federal Reserve monetary policy for the past decade has defeated this function of the markets by inciting asset bubbles and crashes with cheap credit. This same policy was accelerated after 2008, with the Fed’s deliberate intention to re-inflate financial asset prices in order to shore up the banking system. But the result has been only to cause more asset price volatility and concomitant speculation. Average savers have had to take on unwanted risk in their portfolios or risk erosion of dollar values. None of this activity will result in productive, job creating investment and only amplifies systemic risk.
This excerpt from the WSJ chronicles the disappointing results:
During the third quarter, markets were tossed to and fro on a daily—or even hourly—basis by the latest news from Washington or European capitals. In August and September, the Dow industrials rose or fell by more than 1% on 29 days, and there were 15 days with final moves of more than 2%. The last time the markets saw that kind of volatility was in March and April of 2009.
The damage was much worse in Europe, where bank stocks staged precipitous declines. The main French and German stock indexes both lost more than 25% of their value, their biggest quarterly declines since 2002. Asian stocks also took a pounding, suffering losses well into the double-digits. In Hong Kong, the Hang Seng index lost about 21%.
Amid the tumult, the primary destination for nervous investors was cash and government bonds, especially in the U.S. and Germany, despite yields below the rate of inflation.
The yield on the U.S. Treasury ten-year note fell to 1.71%, the lowest yield since at least the 1940s. With overall inflation in the U.S. running at around a 3.6% clip, that means investors are effectively accepting a loss. It was a similar story on German bunds, where yields also fell below 2%, and in U.K. Gilts.
And in the case of U.S. Treasury bills, investors at times bought securities that offered no yield. Essentially, investors were parking money with the U.S. Treasury, expecting to get back the same amount in three months.
There is no painless way out of this…