Why Stop Printing Money Now?
Chair Yellen frequently reminds us how effective and innovative QE is as a monetary policy tool. She even referred to the monetary actions, of her former boss, as heroic at a commencement speech this past spring. Literally…QE has saved the financial world. We must thank Mr. Bernanke and Ms. Yellen for being so Ivy League and Beltway intelligent.
And, also, how generous of them to share this amazing gift of theirs with our friends in the developed world [UK, Japan, and the EU, from what I understand, is now beta testing the program]. This magical elixir is sure to cure any and all global economic ills.
Come to think of it why don’t we erect two massive monuments of the both of them? They can be built right in the middle of America for everyone to see. And since Ms. Yellen seems to be so diminutive we can build both of them really big…each one 500 stories tall to match their massive intellects. The project will surely create hundreds of jobs and the payroll can be “covered” by a “one time” ceremonious QE4.
But what I’m really curious and concerned about is the following:
Just with words, Mario Draghi, European Central Bank president, dazzled bond markets.
What will happen when he actually acts?
His announcement on January 22 of eurozone “quantitative easing” led to another big lurch down in government borrowing costs. Yields, which move inversely with prices, are now negative on German bonds with maturities of up to six years. Yields on 10-year Spanish and Italian bonds have fallen even faster than German equivalents.
This week’s ECB meeting in Cyprus will set the stage for QE implementation this month. So far Mr Draghi has been coy about details, even about exactly when asset purchases will start — with good reason: how the ECB manages its bond buying will largely determine where yields head next. In turn, that could prove crucial in determining whether his ambitious programme is perceived as succeeding and likely to pull the eurozone back from the brink of dangerous deflation.
Everyone knows the positives, or rather positive, even if nobody at the ECB is willing to come out and say it: the ECB’s QE – whose structural details were laid out previously – will boost stock prices, and… that’s it. Who benefits as a result of this has now become a socioeconomic and philosophical discussion.
So here, courtesy of ADMISI’s Marc Ostwald, are the negatives:
- Risk sharing is very limited, with national central banks taking 80% of the risk on sovereign bond purchases, and rather un-reassuring was Draghi’s comment that “most national central banks have adequate buffers to absorb a negative event” – most being how many.
- Not good news for Greece, while it and Cyprus will be eligible for purchases of govt under a ‘waiver’ for (bail-out) ‘programme countries’, the ECB already has a very high volume of Greek bonds on it balance sheet from the SMP programme, and given a limit on total holdings for each sovereign issuer, it will not be eligible for purchases until it redeems debt in July asnd August. It should be added that other Italy and Spain and other bail-out countries will implicitly also have a lower available volume of total purchases, until SMP holdings are redeemed.
- BUT perhaps the key aspect relates to the limits on the 25% limit on purchases of a single issue, which ensures that the ECB adheres to the ECJ’s ruling about the ECB ensuring that is does not interfere with “price formation“. So here’s the key aspect, there are some $12.0 Trln of FX reserves in the world, of which roughly a quarter are held in Euros. Operating on the traditional metric that roughly half of those will be invested in Govt Bills and Bonds, this means that FX reserve managers will have to be involved in the process of establishing prices for whatever is purchased under the Govt bond QE programme. Eminently anything that is sold by central banks will not find its way into the private financial sector, therefore that EUR 60 Bln figure may often overstate what is being injected into the market.
- Last but not least, the expanded programme does not start until March 15, so “Mr Market” now has a very long waiting period to sit on holdings of EUR debt before selling to the ECB, and with plenty of event risk in the world, starting with the Greek election, and to mention the prospect of an imminent Ukrainian default. Sort this under an uncomfortably long period before the QE ‘party’ gets started.
On the assumption that a full-blown quantitative easing (QE) plan is introduced
Alan Ruskin, a strategist at Deutsche Bank
If all the ECB is doing is taking the balance sheet back up to levels seen in 2012, why should QE now be more effective than the balance sheet expansion measures in the past?
Anthony O’Brien, a fixed-income analyst at Morgan Stanley
David Bloom, head of currency strategy at HSBC
Having raised rates twice in 2011 and now having to embark on a massive QE programme, if you were the Fed Chair would you be raising rates this year?
Kit Juckes, strategist at Societe Generale
How will you measure ‘success’ for sovereign bond-buying? Are you hoping for a strong performance from asset markets, or a pick-up over time in inflation expectations or do these policies only work if they feed through into stronger private sector growth?
Jens Nordvig, head of currency strategy at Nomura
What defines monetary financing? What constraints on quantitative easing are necessary to avoid messing with that?
Ralf Preusser, head of European rate strategy at Bank of America Merrill Lynch.
Albert Edwards admits that his “über bear” reputation is well deserved, at least with respect to equities, an asset class he has dismissed for the last 10 years. His bearishness has not abated, and for the coming year, he fears that “deflation will overwhelm the west.”
Markets, he said, will riot.
Edwards is the chief global strategist for Société Générale and he spoke at that firm’s annual global strategy conference in London on January 13. Andrew Lathrope, the firm’s head of global quantitative strategy, and Dr. Marc Faber, the publisher of the Gloom Boom & Doom Report, also spoke.
Global markets face three risks, according to Edwards: bearishness in the U.S. government bond market, a flawed confidence that the U.S. is in a self-sustaining recovery and undue faith in the relationship between quantitative easing (QE) and the equity markets.
Deflation is the main threat, though, according to Edwards. “This is the year the markets really panic about deflation. You haven’t had that panic yet.”
Bank of Tokyo-Mitsubishi on the prospects for ECB QE and the euro:
The Minutes from the BOJ October 31 meeting:
- Many BOJ members said the BOJ to keep easing until inflation is stable
- BOJ will check risks, make adjustments as needed
- Japan economy continued to recover moderately
- Many members said if downward pressure on prices remained there was a risk that the shift in deflation mindset could be delayed
- Inflation to be around 1% for some time
- Kuroda proposed additional easing
- One member said if the BOJ had not expanded QE it could be seen as breaking its commitment to its price target
- One member said expanded QE is sufficient to meet 2% price target in second half of 2015 fiscal year
- One member said if price target in sight debate about exit strategy would be possible
- BOJ should explain that QQE is open-ended
- Some members said extra easing size should be as big as possible, need to avoid easing being seen as incremental
- Some said the effects of more easing not worth the costs, saw maintaining previous policy as appropriate, said virtuous cycle was being maintained
Full text is here
The latest weekly flows data from fund-tracker EPFR Global confirm anecdotal evidence that the Fed’s surprise decision to maintain QE encouraged investors to stuff cash into higher-risk and emerging markets.
Highlights from Royal Bank of Scotland’s analysis of the EPFR data, for the week ending Sept 25, look like this:
- The EM Fixed Income asset class saw inflows after seventeen consecutive weeks of outflows.
- EM equity flows also continue to impress, having observed strong inflows for three weeks running
- Flows into high yield bond funds surged, doubling from the previous week.
- Developed markets equities, by contrast, saw small outflows after record inflows in the prior week.
One trend in the data that’s particularly encouraging is that investors are being selective rather than indiscriminate. RBS writes:
There was a substantial drop in EM real money fund allocations to Turkish and South African local currency bond funds during the month, while Russia was able to attract its highest allocations since June 2008. In hard currency space Russia also outperformed along with Hungary, whose allocations rose to the highest level on record. In contrast, allocations to Ukrainian hard currency bond funds are now at their lowest levels in seven months.
Last Wednesday, the Federal Reserve shocked markets with a surprise decision to refrain from beginning to taper back the pace of its bond-buying program known as quantitative easing.
In the press conference following the decision, Fed chairman Ben Bernankecited the recent rise in long-term interest rates – spurred by Bernanke’s previous press conference in July, during which he seemed to endorse it – as a reason for the delay. Rates had risen too far, too fast, and they were presenting a threat to sustainable economic growth.
Nomura chief economist Richard Koo calls this a “QE ‘trap’ of [the Fed’s] own making,” writing in a note to clients that the Fed’s decision last week is a clear sign that a “vicious cycle of rising rates and economic weakness has already emerged.”
The yield on the 10-year U.S. Treasury note rose as high as 3.0% in the weeks before the Fed announced its decision not to taper.