June 13, 2008

How to make commodity prices go even higher

Let's see, the last two rising asset classes didn't really transform into bubbles until the Fed started raising interest rates - I'm warming up to the idea of a higher Fed funds rate.

Apparently this isn't as obvious to others as it is to me...

After this post appeared at the blog, a reader asked:

"I'm sure we're supposed to just "get" the point from the chart, but would you care to expound on why? The RE bubble was caused by artificially LOW rates. Didn't the bubbles start before rates were raised, and the rates were raised in response to the bubbles?

My reply:

Markets often become "emboldened" and prices continue to rise for years after rates are first raised. This has much to do with the delayed-effect of interest rate increases and investor psychology, as in, "This can't be a bubble because prices continue to go up even though the Fed is tightening".