With government bond interest rates hitting historical lows for quite a while now, former Federal Reserve Chairman Alan Greenspan is warning that the bond market is on the edge of a major collapse, which will also affect stock prices. In other words, a bubble is about to burst.
In a CNBC interview on Friday, the longtime central bank chief said the prolonged period of low interest rates is about to end and, the bull market in fixed income that has lasted more than three decades will end as well.
“The current level of interest rates is abnormally low and there’s only one direction in which they can go, and when they start, they will be rather rapid,” Greenspan stated.
That low interest rate environment has been the product of current monetary policy at the Federal Reserve, which Greenspan led from 1987 to 2006. The Fed took its benchmark rate to near zero during the financial crisis and kept it there for seven years after.
Since December 2015, the Fed has approved four rate hikes, but government bond yields remained stagnant.
Not criticizing the policies of the current Fed, Greenspan nevertheless cautioned that the low rate environment can’t last forever, and when it ends, it will end very badly.
“I have no time frame on the forecast,” he noted. “I have a chart which goes back to the 1800s, and I can tell you that this particular period sticks out. But you have no way of knowing in advance when it will actually trigger.”
He noted that when it does break, the event will likely will be quick and take the market by surprise.
“It looks stronger just before it isn’t stronger,” he said, adding that those who try to forecast this will be “in for a disastrous experience.”
While he was at the Fed there was also an extended period of low rates, but nowhere near as low as they are now. Greenspan uttered the phrase “irrational exuberance,” in a speech he gave at the American Enterprise Institute in 1996, which was glommed onto by the press. Back then, he was warning everyone about asset prices and said that it’s difficult to predict when a bubble is about to burst.
Those remarks foreshadowed the bursting of the dot-com bubble, and he’s using that term again to describe today’s looming crisis.
“You can never be quite sure when irrational exuberance arises,” he told CNBC. “I was doing it as part of a much broader speech and talking about the analysis of the markets and the like, and I wasn’t trying to focus short term. But the press loved that term.”
Wall Street forecasters agree that the low rates can’t continue to persist, and Greenspan isn’t the only one warning that when this particular bubble bursts, it will take place swiftly, ending the era of global central-bank monetary accommodation. Deutsche Bank AG’s Binky Chadha says real Treasury yields sit far below where actual growth levels suggest they should be, and Tom Porcelli, chief U.S. economist at RBC Capital Markets, says it’s only a matter of time before inflationary pressures hit the bond market, according to a report in Bloomberg.
“The real problem is that when the bond-market bubble collapses, long-term interest rates will rise,” Greenspan told Bloomberg. “We are moving into a different phase of the economy — to a stagflation not seen since the 1970s. That is not good for asset prices.”
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