The key question is whether something could happen in 2007 to drain away this liquidity. For most investors and policymakers, the nightmare scenario remains that of the post-1929 Depression, when a stock-market crash was followed by a spectacular wave of bank failures and a massive monetary meltdown. However, by blaming the Hungry Thirties on blunders by the Federal Reserve, we reassure ourselves that history couldn’t repeat itself. Today’s central bankers are smarter. But history provides an example of another liquidity crisis that went far beyond what central banks could cope with. Until the last week of July, 1914 looked as if it would be another good financial year. The stock-market crash of seven years before had almost faded from memory. Inflation was under control, and interest rates had stabilized. Emerging markets were booming. On the back of sustained global growth, commodity prices were up. Best of all, volatility was as low as most investors could remember. Sound familiar?
By Niall Ferguson
Originally published on 1-5-2007
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