From Real Time Economics:
Some economists, including a former top IMF official, warn market expectations for weak growth could spark financial turmoil
Could the cause of the next U.S. recession be too much growth? That
is one risk of an unprecedented environment in which investors are
betting heavily on a perpetually weak economic expansion.
If markets are wrong–and the economy surges instead of sputters–the
bad bets could roil the financial system, some economists are
increasingly warning.
“Ironically, one can think of a scenario where a
stronger-than-expected expansion leads to financial trouble, which in
turn puts into question the expansion itself,” said former International
Monetary Fund chief economist Olivier Blanchard.
Mr. Blanchard is the latest prominent economist to warn that a surprise upturn in growth may force the Federal Reserve
to raise rates faster than investors expect. A jump in borrowing costs
could catch many off guard, given that much of their portfolios are
based on lower rates.
“If the economy were to pick up faster than markets think, which I
think has substantial probability, it could lead to some financial
turmoil,” Mr. Blanchard, now a senior fellow at the Peterson Institute for International Economics, said in an interview.
June’s strong jobs numbers helped
tame growing fears of a U.S. contraction. Many investors see a major
compression of the yield curve on U.S. treasuries—the difference between
near-term and long-term government interest rates—as signaling an imminent recession.
But if employment, wages and
inflation rise at a speedier clip than many investors currently
forecast, it could cause an economic hiccup as the yield curve
decompresses.
“I suspect that some investors with long bond positions would find themselves in trouble,” he says.
A rapid decompression of the yield curve would not only make credit
more expensive. But the resulting plummet in bond prices would erase
vast amounts of value off investor balance sheets. It could also create
major bottlenecks in the financial system, especially since bond markets
are so crowded. And it could also have global repercussions: A jump in
U.S. rates would likely spur send yields higher across the world, where
investors are holding trillions of dollars worth of sovereign bonds with
negative rates....MORE
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Doom Patrol, Vol. 2: The Painting That Ate Paris
