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Opinion

Which bubble is set to burst first?

Does the recent widening of government bond yields, especially in Japan, signal the bursting of the bond bubble? I think not. Both the equity and bond markets are bubbles and both will burst eventually. But equities are more likely to pop first.

Meanwhile, the fate of the world economy hangs on bubbles that depend on global optimism. This can't last for ever. It contains the seeds of its own undoing since prices are sent to economically unsustainable heights.

A bubble's life cycle relates to the credit cycle, stretching from central banks to final bank lending and on to consumer debt and house prices. A bubble can have a partial credit cycle driving the price of a single asset, such as Japanese government bonds today. Their price is fuelled by the Bank of Japan force-feeding banks with liquidity that goes no further than monetizing Japan's budget deficits when the banks load up on JGBs.

Mutually exclusive In the short run, some bubbles look to be mutually exclusive as candidates for bursting. Either global equity markets (particularly the Nasdaq) or bond markets are bubbles, not both. Equity markets are valued on expectations of successful reflation; bond markets are dead set on continued disinflation (and deflation) damaging corporate profitability and world growth.

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