Cen­tral banks lem­mings of quan­ti­ta­tive eas­ing

China Daily (Canada) - - FRONT PAGE -

Pre­dictably, the Euro­pean Cen­tral Bank has joined the world’s other ma­jor mon­e­tary au­thor­i­ties in the great­est ex­per­i­ment in the his­tory of cen­tral bank­ing. By now, the pat­tern is all too familiar. First, cen­tral banks take the con­ven­tional pol­icy rate down to the dreaded “zero bound”. Fac­ing con­tin­ued eco­nomic weak­ness, but hav­ing run out of con­ven­tional tools, they then em­brace the un­con­ven­tional ap­proach of quan­ti­ta­tive eas­ing (QE).

The the­ory be­hind this strat­egy is sim­ple: Un­able to cut the price of credit fur­ther, cen­tral banks shift their fo­cus to ex­pand­ing its quan­tity. The im­plicit ar­gu­ment is that this move from price to quan­tity ad­just­ments is the func­tional equiv­a­lent of ad­di­tional­mon­e­tary pol­icy eas­ing. Thus, even at the zero bound of nom­i­nal in­ter­est rates, it is ar­gued, cen­tral banks still have weapons in their ar­se­nal.

But are those weapons up to the task? For the ECB and the Bank of Ja­pan, both of which are fac­ing for­mi­da­ble down­side risks to their economies and ag­gre­gate price lev­els, this is hardly an idle ques­tion. For the United States, where the ul­ti­mate con­se­quences of QE re­main to be seen, the an­swer is just as con­se­quen­tial.

In terms of trans­mis­sion, the US Fed­eral Re­serve has fo­cused on the so-called wealth ef­fect. First, the bal­ance sheet ex­pan­sion of some $3.6 tril­lion since late 2008— which far ex­ceeded the $2.5 tril­lion in nom­i­nal GDP growth over the QE pe­riod— boosted as­set mar­kets. It was as­sumed that the im­prove­ment in in­vestors’ port­fo­lio per­for­mance — re­flected in a more than three­fold rise in the S&P 500 from its cri­sis-in­duced low in­March 2009 — would spur a burst of spend­ing by in­creas­ingly wealthy con­sumers. The BOJ has used a sim­i­lar jus­ti­fi­ca­tion for its own pol­icy of quan­ti­ta­tive and qual­i­ta­tive eas­ing (QQE).

The ECB, how­ever, will have a harder time mak­ing the case for wealth ef­fects, largely be­cause eq­uity own­er­ship by in­di­vid­u­als (ei­ther di­rect or through their pen­sion ac­counts) is far lower in Europe than in the US or Ja­pan. For Europe, mon­e­tary pol­icy seems more likely to be trans­mit­ted through banks, as well as through the cur­rency chan­nel, as a weaker euro — it has fallen some 15 per­cent against the US dollar over the last year — boosts ex­ports.

The real stick­ing point forQE re­lates to trac­tion. TheUS, where con­sump­tion ac­counts for the bulk of the short­fall in the post-cri­sis re­cov­ery, is a case in point. In an en­vi­ron­ment of ex­cess debt and in­ad­e­quate sav­ings, wealth ef­fects have done very lit­tle to ame­lio­rate the bal­ance sheet re­ces­sion that clob­beredUS house­holds when the prop­erty and credit bub­bles burst. In­deed, an­nu­al­ized real con­sump­tion growth has av­er­aged just 1.3 per­cent since early 2008. With the cur­rent re­cov­ery in re­alGDPon a tra­jec­tory of 2.3 per­cent an­nual growth— 2 per­cent­age points be­low the norm of past cy­cles— it is tough to jus­tify the wide­spread praise of QE.

Ja­pan’s mas­sive QQE cam­paign has faced sim­i­lar trac­tion prob­lems. Af­ter ex­pand­ing its bal­ance sheet to nearly 60 per­cent of GDP— dou­ble the size of the Fed’s— the BOJ is find­ing that its cam­paign to end de­fla­tion is in­creas­ingly in­ef­fec­tive. Ja­pan has lapsed back into re­ces­sion, and the BOJ has just cut the in­fla­tion tar­get for this year from 1.7 per­cent to 1 per­cent.

Fi­nally, QE also disappoints in terms of time con­sis­tency. The Fed has long qual­i­fied its post-QE nor­mal­iza­tion strat­egy with a host of data-de­pen­dent con­di­tions per­tain­ing to the state of the econ­omy and/or in­fla­tion risks. More­over, it is now re­ly­ing on am­bigu­ous ad­jec­tives to pro­vide guid­ance to fi­nan­cial mar­kets,

hav­ing re­cently shifted from stat­ing that it would main­tain low rates for a “con­sid­er­able” time to pledg­ing to be “pa­tient” in de­ter­min­ing when to raise rates.

In theQEera, mon­e­tary pol­icy has lost any sem­blance of dis­ci­pline and co­her­ence. As ECB Pres­i­dent Mario Draghi at­tempts to de­liver on his nearly two-and-a-half-yearold com­mit­ment, the lim­its of his prom­ise— like com­pa­ra­ble as­sur­ances by the Fed and the BOJ— could be­come glar­ingly ap­par­ent. Like lem­mings at the cliff’s edge, cen­tral banks seem steeped in de­nial of the risks they face. The au­thor is a fac­ulty mem­ber at Yale Uni­ver­sity and for­mer chair­man ofMor­gan Stan­ley Asia. Project Syn­di­cate

Newspapers in English

Newspapers from China

© PressReader. All rights reserved.