The View From 1776

The Origin Of Economic Bubbles

As noted repeatedly on this website, speculative bubbles develop when the Federal Reserve system floods the financial markets with excessive amounts of cheap, fiat money.

The following is a quote from a Wall Street Journal article published today (Bonds Cap Epic Comeback):


The Fed expanded this program on March 18, of last year, to buy $1.25 trillion in mortgage securities, along with $200 billion in debt of Fannie and Freddie and up to $300 billion in long-term Treasury debt. The expansion fueled the second leg of the credit rally, which hasn’t stopped yet.

Fed officials wouldn’t comment on whether they intended this secondary effect when designing their asset-purchase program. But they have suggested in speeches that it was a predictable outcome.

“With lower prospective returns on Treasury securities and mortgage-backed securities, investors would naturally bid up the prices of other investments, including riskier assets such as corporate bonds and equities,” Brian Sack, head of open-market operations at the New York Fed, said in a speech in early December last year.

The Fed added to the buying pressure in December 2008 by cutting its target for the federal-funds rate