Fed looks like a gambler going for broke as interest rates approach zero

Now that the Federal Reserve is all in, in poker parlance, Asia faces some big questions.

The card-playing analogy is an apt one. The Fed, like the Bank of Japan (BOJ) over the past decade, looks like a gambler going for broke with near-zero interest rates and pledges to buy government debt.

It will take time before we know where the chips fall, yet moves by the Fed, the BOJ and the Bank of England are putting Asian central banks on the spot. Will they, too, roll the dice and slash rates to zero? Monetary-policy makers should resist the urge and let governments take the lead.

The issue is less about the level of short-term interest rates than their effect on asset prices. It's in times like these that bubbles are created, just as we saw in the US during Alan Greenspan's tenure as Fed chairman. It has never been more important for developing nations to act prudently and avoid what some call Greenspan's "Bubbles 101."

I first heard that phrase in May 2007 from Roberto de Ocampo, who was once the finance minister of the Philippines. Since then, the term has cropped up more and more in conversations with Asian policymakers and business people.

"Think of it as Asia's Greenspan test," says Marshall Mays, director of Emerging Alpha Asset Management Ltd in Hong Kong.

"No one has blown bubbles better and the risk is that Asia learned the wrong lessons from his time and his dogged efforts now to say he was misunderstood."

It's disorienting for this region to look at the once-omnipotent Fed as an example of what not to do. During Asia's 1997 crisis, US Treasury officials would sometimes bring Greenspan along to meetings in Asia. The message: Look, even Guru Greenspan thinks you should do what we say.

Now, of course, Asia sees that the so-called New Economy was really a series of bubbles.

Greenspan, Fed chairman from 1987 to 2006, was always at the ready to re-inflate things with the world's most powerful monetary pump.

That tendency to rescue markets with low rates when things got dicey proved disastrous. It skewed incentives as markets expected to get bailed out. It also created excess liquidity that encouraged investors to double-down on risky bets - think American International Group Inc, and sent waves of volatile hot money to Asia.

Japan is effectively at zero - its overnight rate is 0.10 per cent. The question is whether more central banks will move in that direction. Rates in Singapore are 0.25 per cent, while they are 1.25 per cent in Taiwan, 1.50 per cent in Thailand and 2 per cent in both South Korea and Malaysia. While each has some latitude, rates across Asia are getting low.

Not every-where, of course. Indonesia's benchmark is 7.75 per cent, Vietnam's is 7 per cent and in the Philippines it is 4.75 per cent. China's key rate is 5.31 per cent, while India's is 5 per cent.

The global crisis will hit Asia with growing force as the year unfolds. Double-digit declines in exports and sliding stock markets were merely the first wave of the turmoil. The second will come as US households rediscover thrift. A few years of weak world consumption will lower Asian living standards.

With credit markets malfunctioning and central banks struggling to get traction, fiscal policy is a more important lever. The crises of the last decade left Asia averse to big budget deficits. That is no longer an option as world growth slows and the limits of monetary policy come to light. Governments must spend more, period.

Asia's eventual recovery must be for real, not driven by asset bubbles destined to burst. Lower borrowing costs won't give Asia much sway over exchange rates, either. Even Chinese Premier Wen Jiabao's concerns about the safety of his nation's holdings of US Treasury bonds didn't hurt the dollar. While the US is the epicentre of the crisis, developing economies may pay a bigger price as capital goes into the dollar anyway.

Central bankers would do more harm than good by following the Greenspan Fed's policies.

Not that Ben Bernanke, Fed chairman since February 2006, has been a hawk. Yet he inherited a financial system addicted to low rates and a political system that likes things that way. That's why, three years after the fact, the Greenspan era is still with Asia.

Central-bank independence is now a quaint concept. Asia's central banks will come under extreme pressure to slash rates. Here, the Greenspan years are more of a cautionary tale than a strategy on which to bet.