Time to try and beat the quantitative easing addiction
ONE of Britain’s top bureaucrats, Lord McPherson, onetime top Treasury mandarin, has suggested that we are now addicted to quantitative easing (QE), the electronic money pump priming activity engaged in by central banks since 2009.
He has compared QE to a heroin habit.
The former UK Chancellor, Alistair Darling, likewise, regrets that QE has been allowed to go on for so long and with such impact.
As we now know, try and come off heroin too quickly and one can literally end up dead. But stick with the drug and a similar outcome is also likely.
At the weekend, many of the world’s top central bankers and economists have been meeting at the resort of Jackson Hole in the western US state of Wyoming to chew the fat on the global economy and to discuss how best to row back on quantitative easing without, in the process, sparking another meltdown in financial and property markets which have grown fat on a diet of easy money.
The policymakers have been tiptoeing slowly in this direction for good reason.
Many commentators now believe that the QE monster has been allowed, over time, to grow out of control. The balance sheet of the US Federal Reserve now stands at several times its size prior to the financial crisis.
There are concerns that the European Central Bank (ECB) may have left itself highly exposed to the fortunes of fragile European sovereigns and banks, although most acknowledge that the intervention under president Mario Draghi has, in the short-term, pulled the eurozone away from the cliff edge, sparking a real recovery in the European economy which, in turn, has pushed the euro back into favour as a currency.
Certainly, the naysayers who predicted runaway inflation following these moves have been proved wrong. Price and wage growth remains restrained although quantitative easing by boosting asset prices, in property and commodity markets has inadvertently helped to increase the gap between the haves and have nots in society.
Asset price inflation is as big a problem now as it was in the mid-Noughties just ahead of the crash. In Britain, in particular, consumer borrowings have surged leaving many exposed to any surge in the cost of borrowing.
The Brexit project has complicated matters by increasing the potential exposures faced by the economies in these islands.
A mishandled tapering of the QE tap could, when combined with a botched Brexit, spark a serious downturn in markets leaving economies with heavy borrowings such as those in Ireland and Britain in a hard place.
The concern all along is that the combination of a soaring dollar and rising interest rates could spark a crisis in over-borrowed emerging economies.
The US-based economist Nouriel Roubini has warned that the sort of unconventional monetary policies in recent years could make a swift return to favour should a financial crisis occur in the wake of rises in interest rates and reductions in the size of central bank balance sheets.
But leaving well alone brings its own set of risks, too. The concern remains that inflation expectations could build up in economies where spare capacity is strained.
Ironically, one such economy could be post-Brexit Britain where signs of a withdrawal of skilled labour back to the EU are now evident.
The British economic commentator and fund manager, Andrew Smithers, has warned that debt ratios and asset prices are much higher than in the days when the former head of the Federal
Reserve, Paul Volcker, moved to tackle inflation by pushing up interest rates.
In other words, central bankers will have to tread warily as — led by America — the monetary squeeze is applied.
The reversal of the money-printing experiment could well be marked by an upsurge in insolvencies as over borrowed ‘zombie’ businesses, kept in intensive care, reach the end of the road.
Of course, free marketeers would argue that such a shake-out would be healthy for the wider economy as resources tied up in such areas are released for more profitable purposes.
But tell that to the communities who could be badly affected.
Eoin Murray, head of Investment at Hermes Investment Management, warned recently that investors could be set to be burned badly, having failed to put in place covenants limiting the size of company debts.
Quantitative easing was intended to boost productive investment. This has failed to materialise to any great degree — away from the high flying high-tech sectors, at least.
The result has been falling productivity despite the upsurge in innovation.
Andrew Smithers believes that this disappointing outcome is due in large part to the fact that senior managers continue to be incentivised to engage in short-term, profit maximising behaviour. As a result, resources for investment for the long-term have been squeezed out.
He argues also that tax laws should be altered with the elimination of tax
reliefs on business debts. Such allowances have rewarded debt accumulation while penalising those who rely on equity finance.
Tax levers — such as higher taxes on property price gains — could also have served to rein in the surge in asset prices attributable to QE measures.
But as things stand, the central bankers and top policymakers find themselves faced with the prospect of having to carefully defuse a ticking asset price time bomb.
One can only wish them all the very best of luck in the months ahead.
