Steven Pearlstein of the The Washington Post explains via this story in the Hamilton Spectator why the run-up in the stock exchange of the last 6 months isn’ t necessarily a good thing. Instead of being a predictor of good times to come, the run-up in the stock market is more likely the latest in a series of financial bubbles. We started with real estate & S&L’s in the 80’s, then it was dot-com’s and tech stocks in the nineties, then back to real estate and houses until 2006, then oil and commodities in 2007-8 (remember $130 barrel oil?). We still aren’t reforming our financial system and we’re still letting speculators, bubble-blowers, and Wall St drive our policies.
Less encouraging is what’s happening on Wall Street. It turns out that all those bold and necessary steps by the Federal Reserve to prevent the financial system from collapsing wound up creating so much liquidity that it has now spawned another financial bubble.
Let’s start with the $1.45 trillion that the Fed has committed to propping up the mortgage market – money that, for the most part, was simply printed. Effectively, most of that has been used to buy up bonds issued by Fannie Mae and Freddie Mac from investors, who turned around and used the proceeds to buy “safer” U.S. Treasury bonds. At the same time, the Fed used an additional $300 billion to buy Treasurys directly. With all that money pouring into the market, you begin to understand why Treasury prices have risen, and interest rates have fallen, even at a time when the government is borrowing record amounts of new money.
At the same time it was printing all that money, the Fed was also lowering the interest rate at which banks borrow from the Fed and each other, to pretty close to zero. What didn’t change was the interest rate banks charged for everyone else. As a result, “spreads” between what banks pay for money and what they charge are near record highs.So who is doing the borrowing? By and large, it’s not households and businesses, which are reluctant to borrow during a recession. Rather, it’s hedge funds and other investors, who have been using the money to buy stocks, corporate bonds and commodities, driving prices to levels unsupported by the business and economic fundamentals.
I recommend reading the full story at the link.