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The answer to "What's going to give the Fear Index a boost ?" was staring us in the face all along .... The threat of Thermonuclear War,...

August 11, 2017

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The end of QE ? For now, at least ..... ref :- "Draghi calls time on eurozone stimulus experiment" , The Financial Times, International Section

December 14, 2018

 

The European Central Bank may have been a little half-hearted by some standards in its forays into Quantitative Easing in the past but ECB President Mario Draghi finally embraced the concept much more forcefully in 2015. Having only truly arrived at the party later than some  --  such as the US Federal Reserve and the Bank of England  --  it's not surprising that the ECB is leaving it a bit later too ..... after yesterday, only the Bank of Japan parties on.

 

Quantitative Easing is a method of stimulating spending and inflation (and therefore growth) by creating "electronic money",  and boosting the economy by using it to purchase assets  --   mostly but not exclusively government bonds  --  thereby supressing yields and borrowing costs.

 

Mr Draghi has long stated that it was the intention of the ECB to call an end to its QE programme this month. As a general rule SuperMario is well respected and trusted by the markets but some had begun to wonder whether the recent slowing of growth indicators, geopolitical concerns (esp. trade and Brexit) and market volatility might just cause him to postpone turning the taps off  --  he has always appeared more cautious than hawkish about such things, after all.

 

In the event that was not to be, as Mr Draghi confirmed that this particular leg of the experiment was over. Some may find it ironic that the ECB is withdrawing stimulus just when things are slowing down again and inflation forecasts are weakening too, but that would ignore the fact that the central bank's monetary policy will remain (by normal standards) extremely accommodating. Even if bond yields were to tick higher, there has been little expectation of any rises in interest rates (currently zero) until mid-2019, and now many believe that next year will pass without any hikes at all.

 

Moreover, there is no sign of a start to "Quantitative Tightening"  --  the process whereby the central reduces the size of its balance sheet by NOT re-investing the proce

 

eds of maturing bonds that it has accumulated throughout QE. The US Fed Reserve has begun such balance sheet reduction, but the ECB looks a very long way from that right now.

 

So, has QE been a success ? Some observers are fundamentally opposed to the process on principle. By artificially supressing yields and borrowing costs, QE creates asset bubbles in a range of asset-classes (stocks, bonds, housing markets etc.) that have the potential to cause enormous damage. From a political standpoint, such pumping up of asset prices by definition most benefits those who own the assets .... thus the rich get richer, and claims that QE increases inequality at the expense of working people become harder to combat. Such views have demonstrably led to the rise of populist , more extreme political entities on both the right and the left. Within the Eurozone there is concern amongst the more fiscally prudent, largely northern states (particularly Germany) that ECB purchases of bonds are a get-out for less-disciplined neighbours who should have to pay a price for economic mismanagement.

 

These are legitimate points of view, and the possible economic and political side-effects of QE should not be overlooked. On balance though, the general consensus would seem to be that QE has been a success. In the aftermath of the financial crisis, rates were heading towards zero and central banks had to prove that not only did they have other sources of ammunition at their disposal but were prepared to use it. Without it, according to Stephen King of HSBC, the dumping of assets and its very serious economic consequences would have been much worse.

 

Mr Draghi told us yesterday that QE was now  permanently available as part of a central bank's armoury. At one level, that's good to hear ..... with global growth slowing , so are the prospects for any meaningful interest rate normalisation . Only the US Fed has managed to pull off any meaningful rate rises, and even they are making more cautious noises all of a sudden.

 

It's understandable that because QE in theory is a temporary measure that has worked, it's likely to be used again. The only trouble with that is the question about what exactly do we mean by "temporary". If the asset purchases are still on the central bank's balance sheet, and remember only the Fed has even made a start in reducing the amount of bonds etc that it has accumulated, can we really say that it's over ? If the next time central banks are required to take action and interest rates are already effectively as low as they can go, can they just keep creating money and purchasing assets ad infinitum ?

 

It may be that the way forward has to be a coordinated plan of joint monetary and fiscal policy. Fiscal policy of course means that politicians will have to get involved ..... and in these fevered political times with a cast-list espousing their own radical agendas that may or may not be viewed as economically responsible, that's a plan that may not be easily achieveable.

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