![]() The federal funds rate in September 1994 was 4.73 percent, and by January of 1995, it was 5.53 percent. It was precisely the response to the 2001 crash that fostered the housing bubble in the first place.įigure: Federal Funds Rate (1987-2009) Monetary Policy in the 1990sįollowing the mild economic downturn at the beginning of the 1990s, the US economy seemed to be recovering, and by 1994, the Federal Reserve was raising interest rates to halt a potential boom. In fact, these two events are very closely tied together, which becomes evident through analysis of the monetary policies of that period. This is precisely what occurred when the technology bubble burst in 2001, followed by the housing bubble in 2008. To foster recovery, the Fed lowers rates again to boost investment, causing the entire cycle to repeat. This forces the bubble to burst, and an economic downturn follows as a great deal of the malinvestment goes bust and people cannot borrow as cheaply anymore. ![]() ![]() Once the economy is deemed to be overheating, the bank raises interest rates. This creates malinvestment in the economy because while not everyone has profitable ideas, many more people can borrow, causing a bubble to form. When the bank lowers interest rates, there is excess cash in the economy, making it relatively cheap for anyone to borrow. Since its founding, the Federal Reserve has had a hand in creating some of the largest bubbles in history.
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