Blame the central banks for market turmoil

Free markets are a convenient whipping boy during market turmoil. But it's the central banks you should be blaming, says Alex Williams.


The bear has been led by the banks

During periods of market turmoil like the one we're going through at present, free markets become a convenient whipping boy, says Allister Heath in The Daily Telegraph. But the truth is quite the opposite. Far from being a manifestation of what the left describes as "neo-liberalism", the turmoil is primarily a failure of statism.

Why? Well, free markets make mistakes and the private sector is prone to "spontaneous errors", but neithercome close to the blunders of central banks. As a means of allocating resources, central planning is a "recipe for catastrophe".

Western policymakers supposedly understand this, yet ever since the Wall Street crash of 1987, they have tried to intervene in markets to prevent them correcting, in the misplaced belief that higher asset prices are better for growth. One intervention has led to another for 25 years, culminating in today's extreme developments, such as quantitative easing.

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

Yet the limits of this approach are becoming apparent, says Bill Gross of Janus Capital, perhaps the world's best-known bond fund manager. "How's it workin' for ya?' would be a logical summary of the impotency of low interest rates to generate acceptable economic growth worldwide." All that central bankers have achieved since the last crisis is to replace one vast bubble in housing with another in corporate debt.

Hence the fact that this bear market is being led by sharp declines in the banking sector, says Albert Edwards of Societe Generale. Many investors are perplexed: "they could understand quite clearly what was going on when oil and mining stocks slumped last year in response to weak commodity prices, but this is trickier to explain".

Yet this is what happened in Japan in the mid-1990s, when a slump in Japanese bank stocks signalled the economy was sliding into entrenched deflation. Perhaps markets are finally acknowledging that "the central bank emperors do actually have no clothes". Their meddling is preventing past debt-fuelled excesses from being worked out of the economy, leading us down the same road to ruin.

So while the latest storm in markets "may yet blow over", nothing will have been solved, says Heath. "The economy will only be truly cured when the root causes of its ailment" central banks playing god "are finally addressed".