A Good Time to Be Afraid of the Bubbles

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In my bi-weekly Vedomosti columns, I've been expressing alarm about turbulence in global financial markets and the weakness of the U.S. dollar, with particular attention paid to what it could mean for the Russian economy. In particular, I have warned that Russia could become a weak link in the global economic system -- just as it was in 1998. It is heavily dependent on raw materials and has become spoiled by record high commodity prices. Its economic structure is both inefficient and nontransparent and, most important, its neo-Soviet political system, for all its outward solidity, may prove brittle when stressed by an economic downturn.

The online edition of Vedomosti has a forum where registered readers can sound off and discuss articles. Granted, those who take part in public discussions may not be fully representative of the paper's readership, but those discussions nonetheless leave a grim impression. Almost all participants declare gleefully that the United States is weak and irrelevant to the rest of the world and that Russia has now become a key economic player -- whereas articles like mine, perhaps funded by sinister forces in Washington, are meant to diminish Russia's role.

That an active portion of Russian business executives and finance professionals -- those who purportedly understand how the global economy works -- hold such primitive views, which seem to come straight from a Soviet-era political education lecture, is yet another reason to fear for Russia's well-being in a global recession.

Now may be a good time to start being afraid. The U.S. Federal Reserve cut its interest rates by three-quarters of a percentage point on Jan. 22, an almost unprecedented act of desperation to stop the hemorrhaging on global securities exchanges, reverse the worldwide credit crunch, prevent a drop in U.S. consumer spending and right the wobbling U.S. residential property market.

There may be various explanations why the Federal Reserve acted so urgently. Ben Bernanke, who replaced the almost mythical Alan Greenspan as the central bank's chairman two years ago, has not yet proved his mettle and therefore wants to take no chances on a recession. He is aware that Greenspan faced a severe stock market shock in 1987, a few months after taking control of the Federal Reserve. That crisis made Greenspan's reputation, as he vigorously pumped liquidity into the financial system and prevented a recession.

There may also be political considerations. The United States is in the middle of a presidential election, which would certainly be influenced by an economic downturn. Even now, before a recession has set in, the economy has already eclipsed the Iraq war as the main issue in the campaign.

But there may also be a genuine panic at the Federal Reserve. Bernanke has inherited a world thriving on excess liquidity. The ability of the United States to print dollars at will and to buy goods, services and commodities from the rest of the world spurred an investment boom to sate this demand. While massive investment, combined with technological progress, kept the prices of basic goods and services low, bubbles developed everywhere else, wherever supply was limited: in real estate, art, commodities and stocks. These multiple bubbles are now starting to burst.

Those who hope that Russia will emerge from a global downturn unscathed should take a look at the Moscow stock market. Its RTS index lost some 20 percent of its value in a few trading sessions last week. After a rise over the past two years, it has plenty more room to fall.

The Federal Reserve may slash interest rates and Washington could add another dose of tax cuts, preventing a recession. But this will merely ensure that later this year or sometime during the next, the bursting of the bubble will be even more spectacular. In any case, interesting times lie ahead. To quote a Chinese curse: "May you live in interesting times."

Alexei Bayer, a native Muscovite, is a New York-based economist.