Kenneth Rogoff positive on markets despite US public debt crisis

Kenneth Rogoff, former chief economist of the International Monetary Fund, predicts Washington will fail to tackle debt problems seriously until after next year’s presidential election, but he is “fundamentally positive” about markets in the longer term despite this.

“Government debt is higher than it has ever been, and that is a real issue for the US…but overall, being ‘risk on’ this year is a good thing.”

The US will not default, and its dollar would retain reserve status “partly because the euro is having its growing pains and is not a free currency”.

He warned a recent DWS Investments conference in Switzerland to expect five to 10 years of sluggish market growth, typical for the 12 recent crises he has analysed.

He also noted a near-term market risk as QE2 ends, as equity traders see Federal Reserve chairman Ben Bernanke as “an Alan Greenspan on steroids” stimulating their markets.

He also cautioned that Europe’s debt problems have legs.

“I hear Europe’s policy makers say, ‘we are now in the end-game of Europe’s debt crisis’. I have played chess and an end-game is when most of the pieces are off the board. How can that be in Europe if debt is still out there?

“I think Europe will work it out, but their current strategy is not viable. It is nuts. Looking at Greece, at Ireland and Portugal, what they are doing just does not look realistic.”

Bondholders of all three face “significant haircuts”, he said.

However, having a diversified portfolio of debt – even while Greece stood in default for 50% of years since 1800 – protects investors well enough, in his view.

Rogoff said recent rate hikes by Europe’s Central Bank “do not make a lot of sense – 3% inflation is the least of your worries. Having minus 5% output is worse, so raising rates is something they should be cautious on.”

Despite this, he said another financial crisis was “not just around the corner, because the best protection against having one is having just had one. Only Argentina in Latin America did not default in the Great Depression – because they just had earlier.”

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David Walker

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