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It's the Fed that sets the rate game rules

A neat theory has it that long-term interest rates are stubbornly low because of excess savings in Asia. But the Federal Reserve can't get off the hook that easily

Last month, Ben Bernanke took over as head of president George W Bush's Council of Economic Advisers. Bernanke is also the front runner for the post of chairman of the Federal Reserve, when Alan Greenspan ends his long reign as the most influential economic player in the world in January.

So what Bernanke has to say about the world economy and the prospects for economic growth and financial assets must not be taken lightly. He has been developing an important thesis on this.

Greenspan has been bemused about why his steady edging up of short-term interest rates in the US has not led to a similar trend in long bond yields. Bernanke is convinced he has the answer. Rising Asian savings in excess of investment needs are the reason why long-term interest rates are so low.

Happily, as a result, he argues, the world economy has established a sort of sub-optimal equilibrium where the excess-savings economies of continental Europe, Japan and Asia are balanced by the excess-spending economies of the US, UK and Australasia. This equilibrium, Bernanke suggests, is sustainable and will continue to deliver good economic growth without financial crises.

The worry I have about this line of Keynesian reasoning is that it absolves central bankers of all responsibility for mispricing capital (it's the bond market's fault, stupid!) and thus of fuelling excesses and feeding bubbles.

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