Continued use of quantitative easing is sowing the seeds of financial instability, according to Sheila Bair, former chair of the Federal Deposit Insurance Corporation, who says that the 2008 crisis taught us a credit-driven economy is not sustainable.
Bair has been an outspoken critic of quantitative easing and says there has been too much reliance on the Federal Reserve Bank.
“The economic problems are structural, not cyclical, so they need to be solved through fiscal policy,” she says, recommending tax reform and the creation of an infrastructure bank.
She says quantitative easing, or cheap credit, is designed to get people spending again, but it penalises savers and creates pressure for the investment community to find yield.
“It encourages you to take risk,” she told the audience at the Conexus Financial/World Pension Forum Risk Summit.
Bair said she was worried about the assessment of risk in markets, and says that both the bond and stock markets are inflated.
In particular, she says investment in stock markets is driven by low yields in the bond market.
“I want to think that stock market growth is driven by fundamentals, but think it’s driven by low yield on bonds.”
Bair told the pension-fund audience that there was continued volatility to come, and that long-term structural reforms were needed.
“Monetary policy has been the only game in town. We have been in quantitative easing for too long, but the Fed will have to detach very slowly,” she says. “We need to get back to real economic growth, with real wage growth and the production of goods and services that people want to buy.”
The Federal Deposit Insurance Corporation (FDIC) is an independent agency created by the Congress to maintain stability and public confidence in the nation’s financial system by insuring deposits, examining and supervising financial institutions for safety and soundness and consumer protection, and managing receiverships.
Bair says she believes in a rules-based process to regulation and recommended that, as part of that,banks are required to have more capital on their balance sheets.
“They rely too much on short-term funding,” she says. “A well capitalised banking system is essential if we want to have a stable financial system.”
As investors of bank stocks, she recommends that pension funds look at whether they are getting good shareholder value. In particular, she says there is more value in the large financial conglomerates in pieces, rather than as large institutions.
“2008 could have been avoided,” she says. “There should have been more fundamental restructuring of the banks. The investing community needs to weigh into this.”