Poll: Do Central Banks Reduce or Increase Systemic Risk?
In a poll conducted earlier this week in the CFA Institute Financial NewsBrief, we asked readers whether central banks contribute to systemic risk.
Do you think central banks, on balance, reduce or increase systemic risk?
In the years preceding the 2008 financial crisis, the US Federal Reserve reduced interest rates, reaching a nadir of just 1% fed funds rate in 2003–2004. Departing from market-based rates enabled much greater demand for credit to be met. Compounding matters, as many US trading partners (e.g., China) pegged their exchange rates to the US dollar, the US trade deficit escalated sharply in the early 2000s. It reached more than 6% of gross domestic product per year as of 2006, meaning that over the preceding 10 years, more than US$6 trillion went to foreign central banks, who bought approximately $3 trillion in US Treasury bonds with the cash — further suppressing interest rates.
Lastly, and largely unrelated to the Fed, the US government adopted policies that pushed lenders into low-quality subprime loans, which grew from approximately 5% of the mortgage market in 2000 to about 40% of the mortgage market in 2006. This combination set the stage for a dramatic credit bubble, whose subsequent collapse created a systemic event of epic proportions.
On the one hand, the Fed’s actions in the early 2000s stimulated the credit bubble. On the other hand, its interventions in late 2008 and 2009 undeniably kept the crisis from collapsing the economy. Perhaps this explains why 50% of the 786 poll respondents believe that central banks curtail systemic risk, on balance. Regardless of what your views are, be sure to tune in to our panel discussion on central banks and systemic risk.
Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.
