Alan Greenspan, the former Chairman of the Federal Reserve, said to Bloomberg that “We have a stock market bubble [..[ and a bond market bubble.” Greenspan coined the term “irrational exuberance” to describe asset values during the 1990s’ dot com bubble, and the term may very well be appropriate today as well.
Despite the recent 10% sell-off of stocks, stock markets remain close to record highs while yields on government notes and bonds approach record lows. Meanwhile, the Federal reserve wants to gradually tighten the monetary policy, so interest rates are expected to increase, as we wrote about in a recent article. Greenspan addresses this issue by saying: “As real interest rates rise, it’s inevitable that the effect on equity prices is negative”
Greenspan comments that the bond market bubble will eventually be the critical issue, but that, for the short term, “it’s not too bad.” He continues, “But we’re working, obviously, toward a major increase in long-term interest rates, and that has a very important impact […] on the whole structure of the economy.”
Government deficit to increase
According to Greenspan, the government deficit will continue to increase relative to GDP, and he expresses surprise that President Trump has not specified how he intends to fund the initiatives he revealed in his State of the Union speech. This includes the $1.5 trillion in tax cuts and the infrastructure spending plan, both of which experts say will widen the budget gap.
The reason for the bubbles, Greenspan says, can be found in the fact “that, essentially, we’re beginning to run an even larger government deficit.” Debt, as a share of GDP, has been rising significantly, he says, and “we’re just not paying enough attention to that.”
Debt will be the trigger that will bring the stock markets and bonds markets down as it will push yields higher. This will be a global phenomenon as global debt has been rising faster than net wealth. Read more about it here.