It’s the time of year for the hottest read of summer – not Sports Illustrated’s swimsuit, but The International Economy’s summer.
And it’s a pretty juicy question that is asked of 21 business leaders: “On a scale from one to 10, what are the risks of a bursting asset bubble?”
Jeffrey Frankel of Harvard University responded with a nine. He cited four examples of where he sees “outrageous” bubble behavior – in cryptocurrencies like Bitcoin BTCUSD, + 6.24%,
the increase in the GME of the video game retailer GameStop, +1.63% of the shares, the phenomenon of non-fungible tokens and the boom in special acquisition companies, which he compared to the infamous South Seas bubble.
Former Austrian central bank chief Ewald Nowotny was also in the camp of the nine, concerned about real estate and what he called “excessive risk-taking in a large number of markets and the growing importance of poorly regulated non-bank financial intermediaries”. Nowotny also noted leveraged loan financings that have provided a rapidly growing high yield market with many aspects of excessive debt and liquidity mismatches.
Not all economists were concerned. Joseph Gagnon, a senior fellow at the Peterson Institute for International Economics, rated the risk as just two. He argued that neither bond, equity, nor real estate markets are much higher than their fundamental value. Though expensive by historical standards, Gagnon said an aging workforce, declining population growth, and weak productivity growth have pushed real interest rates to record lows.
Thomas Mayer, former chief economist at Deutsche Bank and founding director of the Flossbach von Storch research institute, only rated the risks at three. Mayer said low interest rates have increased asset valuations and excess cash has led to a portfolio shift. But since central banks, in Mayer’s words, are “prisoners” of fiscal policy and the financial markets, he attributes a reasonable tightening of monetary policy to a low probability.
Robert Litan, a non-resident senior fellow at the Brookings Institution, rated the risk at five. He was skeptical that inflation would continue and that the Federal Reserve would tighten. Also, he adds, how much macroeconomic damage would there be even if asset prices suddenly fell? This time around, asset price rises are not debt-driven and banks’ capital buffers are much thicker. He said any drop in asset prices would hurt the economy, like the slight downturn after the dot-com bubble burst, although the high national debt relative to the size of the economy would make it more difficult to clean up after the next chaos.
The S&P 500 SPX, + 0.56%, is up 15% this year and is up 93% from its March 2020 low. US house prices rose 15% in the year through April, according to the Case-Shiller 20-City Composite.