Question: Why might it be better to lean against credit-driven bubbles rather than just clean up after other types of asset bubbles burst?
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In general the question of appropriate policy response is one of minimizing loss Creditdriven bubbles such as the housing bubble experience that resulted in the global financial crisis can be far more devastating to the economy if a crash occurs than if policymakers acted to reduce the size of the bubble preemptively In other words raising interest rates to try to reduce the bubble may cause collateral damage to the economy but it would result in far less damage than would presumably occur if nothing were done at all and the bubble were allowed to continue to build On the other hand noncredit driven bubbles can more easily be dealt with after a crash since financial markets generally function relatively normally following these types of bubble crashes conventional monetary policy can be relatively effective at mitigating any recessionary conditions in the aftermath Acting preemptively to address the bubble is likely to cause more collateral damage than is inflicted by any downturn related to a noncredit driven bubble ... View full answer
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