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WASHINGTON: Recent turbulence on global financial
markets suggests that central bankers’ assurances about the credit
crisis perhaps underestimated the scope of the problem.
Last Tuesday, the Fed issued a
serene statement that took note of the “volatile” markets but
warning that inflation remained its top risk for the world’s
biggest economy.
The previous week, the president
of the European Central Bank, Jean-Claude Trichet, said the market
volatility “can be interpreted as a phenomenon of normalization of
risk pricing.”
US Treasury Secretary Henry
Paulson echoed that tone, stressing the health of the economy and
saying “risk is being repriced.”
“For the moment, a change in
monetary policies seems unlikely because the central banks view the
tensions as temporary, and above all not private-sector financial
problems,” analysts at French investment bank Natixis wrote Friday
in a note to clients.
In a matter of days, however, a
“normalization of risk pricing” turned into panic, forcing the
central banks to massively intervene to inject liquidity into the
markets.
For economist Frederic Dickson,
of DA Davidson, the combined actions “triggered heavy selling in
the equity markets as traders interpreted these actions as a tacit
admission that the current credit crisis is more severe than
previously perceived and threatens the economic expansion in the US
and European countries.”
And their interventions still may
not be enough. The markets are clamoring for Fed chairman Ben
Bernanke to cut interest rates. The Federal Open Market Committee (FOMC)
has held the key federal funds rate unchanged at 5.25 percent for 13
months.
“I suspect Mr. Bernanke would
like to avoid that as it sends the message that the FOMC, as
recently as Tuesday, was underestimating the problem,” said Joel
Naroff of Naroff Economic Advisors.
Some analysts say the Fed can
only blame itself for the quagmire. By slashing interest rates to
1.0 percent in 2003 to fight deflation, the central bank flooded the
markets with cheap money, which led to excessive risk-taking.
And by riding to the rescue in
times of distress, as it did when the dot-com bubble burst, the Fed
has encouraged bad habits among investors.
“In effect, the central bank is
promising at least a partial bailout of bad investments,” Gerald
O’Driscoll, a former vice-president of the Federal Reserve Bank of
Dallas, wrote in a commentary Friday in The Wall Street Journal.
“If investors come to expect
that the policy will persist, then they will deliberately take on
additional risk without demanding commensurately higher returns,”
he said.
 --AFP
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