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US Fed Policies Creates Economic Problems in India

Posted by Steve Markowitz on August 28, 2013

The US government and Federal Reserve have intervened with ever increasing frequency in the economy during the past two decades.  In the 1990’s the US economy had various hick-ups that included the dot.com and telecom bubbles’ and their meltdowns.  Immediately following the 2001 9/11 tragedy a steep drop in economic activity occurred.  In earlier years the Federal Reserve and government would have allowed the law of supply and demand to rebalance the economy.  While painful, such rebalancing is necessary to ensure the proper amounts of goods and services be produced for the available demand.   The interventions, mainly through low interest rate policies and printing money, stopped rebalancing and this ultimately led to the largest bubble of all; the housing bubble.

Five years since the housing bubble popped we continue to see the negative effects of the interventions.  Perhaps the best example is the slowest increase in job growth of any recovery of modern times.

The Fed understands the risks of continuing the low interest rate policy.  It understands that pulling the plug on this “free lunch” is akin to making a drug addict go cold turkey.  In an effort to set the stage for changing the policy, in spring the Fed announced that it is considering lessening its purchase of U.S. Treasury bonds.  That made investors nervous with US equity values gyrating since.  The Fed’s easy money policy is the major reason that US equity prices have inflated during the past two years, not economic growth.  Pull the plug on the easy money and equity values will drop.  It is only question of how far.

The unintended consequences of the Fed’s easy money policies are not limited to the United States.  The Wall Street Journal reported that developing economies are showing significant stress as a result of fears that the Fed will stop buying US Treasury bonds.

  • The Indian stock market lost approximately 5% in value over a two-day period and its currency has dropped significantly versus the US dollar.
  • Thailand has seen its equity markets’ value drop significantly.
  • The Indonesian currency has dropped to a four-year low versus the US dollar and its share prices were down 10% in one week.
  • Malaysia’s currency value has dropped significantly.

The fear is that as interest rates rise investors will pull capital from developing countries and move it to more developed and less risky markets.  As these countries’ currency values drop, their cost of imported commodities such as oil and fertilizer increase.  Inflation in India is currently at an annual rate of about 10%.  Inflation, especially in developing countries, is devastating on the poor who spend most of their money on staples including food.

When the Fed and the US government embarked on the major interventionist policies during the 2008 meltdown that included bailouts, they justified the radical actions by saying they were required to protect us from economic Armageddon.  It is not possible to determine if these policies actually protected us from a more catastrophic meltdown.  However, there are significant consequences to their “free lunch” policies.  We are beginning to see these consequences play out.  People will go hungry.

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