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You Can’t Fight The Market

February 21, 2013 Leave a comment Go to comments

A popular saying among traders is “Don’t fight the Fed”, implying that when the government decides to do something the market has to follow. This may hold true in some cases but once in a while the market demonstrates the limits of government power. For example, two decades ago traders including George Soros forced the Bank of England to break its exchange rate commitments by proving that they were unsustainable.

Another case is unfolding now as the EU’s carbon trading system is having unanticipated effects. The plan was supposed to discourage carbon emissions. But according to the numbers in this article the prices of carbon permits have fallen by as much as 87% which isn’t likely to strike fear into the hearts of big polluters. As a result EU politicians are now trying to manipulate the market by reducing supply.

This may work but it also goes against the principles of the system. Establishing an open market for something that doesn’t show up in a normal accounting of costs is supposed to lighten government regulation since we don’t care what companies are doing as long as they pay the market price to do it. In the process carbon permits will become a new commodity since they will be an essential input for manufacturers in regulated countries.

That means the market may be volatile and unpredictable at times like all commodity markets. And when governments intervene to smooth out volatile markets they can have unexpected effects. After all Alan Greenspan declared that he had smoothed out the business cycle and reduced recessions… we know how that turned out. This type of intervention is more likely to complicate things than make them better, unless the market was poorly-planned in the first place and this is the least bad way to fix it (possible, but I don’t know enough about the market).

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