Yale Lecturer Roach: The Fed Sets Another Trap

The U.S. Federal Reserve's "overly accommodative" super-low interest rates and bond-buying program risk triggering the next world financial crisis, Yale lecturer Stephen Roach has warned.

"While current monetary policy approach has some merit, it is incomplete, as it fails to address the egregious mispricing of risk brought about by an overly accommodative monetary policy and the historically low interest rates that it generated.

Monetary accommodation, to the point of ignoring the stresses and strains of financial stability and what they mean for asset markets and credit markets, is something that needs to be seriously rethought," the former chairman of Morgan Stanley Asia Roach said in an artical published on Jewesh Business News.

Consider the December meeting of the Federal Open Market Committee (FOMC), where discussions of raising the benchmark federal funds rate had been couched in adjectives, rather than explicit actions, he said.

"CONSIDERABLE" AND "PATIENT"

"In line with prior forward guidance that the policy rate would be kept near zero for a 'considerable' amount of time after the Fed stopped purchasing long-term assets in October, the FOMC declared that it can now afford to be 'patient' in waiting for the right conditions to raise the rate. Add to that Fed Chair Janet Yellen's declaration that at least a couple more FOMC meetings would need to take place before any such 'lift-off' occurs, and the Fed seems to be telegraphing a protracted journey on the road to policy normalization."

BALANCE SHEET UP MORE THAN FIVEFOLD

The Fed's $4.5 trillion balance sheet had since grown more than fivefold, Roach said, "Though the Fed has stopped purchasing new assets, it has shown no inclination to scale back its outsize holdings. Meanwhile it has passed the quantitative-easing baton to the Bank of Japan and the European Central Bank, both of which will create even more liquidity at a time of record-low interest rates" and wen on as follows:

TO SPARK THE NEXT CONFLAGRATION

"In these days of froth, the persistence of extraordinary policy accommodation in a financial system flooded with liquidity poses a great danger. Indeed, that could well be the lesson of recent equity- and currency-market volatility and, of course, plummeting oil prices. With so much dry kindling, it will not take much to spark the next conflagration.

EMERGENCY SETTINGS

Central banking has lost its way. Trapped in a post-crisis quagmire of zero interest rates and swollen balance sheets, the world's major central banks do not have an effective strategy for regaining control over financial markets or the real economies that they are supposed to manage. Policy levers – both benchmark interest rates and central banks' balance sheets – remain at their emergency settings, even though the emergency ended long ago."

(PHOTO) - Istanbul