One of the features of the Quantitative Easing (QE) era is that things have not turned out as the economic theories predicted. The basic issue of it being a form of “printing money” is true in terms of liquidity created – the creation is electronic rather than in terms of physical notes and coins – but the effects have not fully bourne that out as we move through the monetary system. For example there was a stage when the Bank of England found that whilst it was operating its £375 billion of QE the banks redeposited some £260 billion of it back at the Bank of England. The European Central Bank is finding that its push is being neutered to a fair extent as well. In the latest Press Conference Mario Draghi told us this although of course he did not put it quite like that. Matters start well from his point of view.
the narrow monetary aggregate M1 growing at an annual rate of 10.5% in April.
You could also say that he likes the broad money pick-up
The annual growth rate of M3 increased to 5.3% in April 2015, up from 4.6% in March.
But loan growth to households is disappointing.
The annual growth rate of loans to households (adjusted for loan sales and securitisation) increased further to 1.3% in April 2015, after 1.1% in March.
If you think that this is not much for all the effort well wait for the lending to business figures.
The annual rate of change of loans to non-financial corporations (adjusted for loan sales and securitisation) was -0.1% in April, after -0.2% in March, continuing its gradual recovery from a trough of -3.2% in February 2014.
Supporters of QE would argue that this is early in the piece as it only started in January. I do hope therefore that they are not the same people claiming it has caused the recent uptick in economic growth! However if we look at other QE efforts the position has been similar and of course the ECB has been bashing away with policies to improve loans to businesses for years and look at the numbers. As we discuss often on here something has changed in the credit crunch era with regards to business borrowing as for example I looked at on the 2nd of this month the UK has a very similar problem.
Actually you do not have to take my word for it as I note this from Mario Draghi.
So yes QE starts as a form of money printing but by the time it has found its way through the monetary system much of the push disappears.
What about financial markets?
It was not so long ago (April) that the ten-year yield of Germany plunged to 0.07% in a frenzy of bond buying. We later had the “flash-crash” and on May 12th I pointed out that it was now ten times larger at 0.7%. Well this morning it reached 1% and then went as high as 1.04%. Quite a change is it not? Also it is a lot higher than when QE began in the Euro area. From Ransquawk.
German 10y yield now = 1.01% German 10y yield on day
#ECB announced QE = 0.45%
This poses quite a litany of questions. For example the ECB has purchased some 159.6 billion Euros of sovereign bonds up to now and as of the end of May some 34.4 billion Euros of these were German bonds. We know from the Bank of England that such purchases are supposed to raise prices and lower yields.
Through lower borrowing costs and higher wealth, asset prices then raise demand, which acts to push up the consumer price level.
Of course in this contradictory world we have already seen the head of Austria’s central bank Ewald Nowotny tell us exactly the reverse. From Monday’s article.
I will leave Ewald to explain to business borrowers in Austria why paying more for loans will improve business borrowing and indeed to owners of the 100 year Austrian bond why that fact that the price has fallen more than 60 points is a success!
What was that about never believing anything until it is officially denied! Still if what happened in Japan at a similar period continues to work Ewald will have plenty more “success” to be a cheerleader of.
So we see that the expectation of QE and then the announcement of it boosted bond prices and lowered yields but now we are wondering if Maxine Nightingale was right all along.
Ooo and it’s alright and it’s comin’ ‘long
We got to get right back to where we started from
To be more specific we are back to late September 2014 at these levels.
Safe Haven Alert
This is a subject where the credit crunch has changed things. Government bonds used to be considered as safe investments. There always was an issue with this as for example in the UK inflation often punished holders of UK Gilts. But can a 10 year German bond yielding 0.07% be considered “safe”? Certainly not in my view. Even shorter-dated bonds have their issues now especially when they offer a guaranteed loss if held to maturity via negative yields.
Or putting it another way central bank interference via QE has made bond markets very volatile which means that they are failing in their role of promoting market stability.
The Euro’s exchange rate
This was something which was performing according to theory as we saw expectations and then the realisation of QE combined with a falling value for the Euro. In the middle of March it fell below 1.05 to the US Dollar which was very different to the nearly 1.37 of last July. But now it is at 1.13. The Euro has also pushed the UK Pound £ back below 1.36.
The trade-weighted index fell to 89.5 in mid-April but has now risen to 93.6. So we see that the reality of QE not only is now seeing higher yields but also a rising currency or exactly the reverse of the theory.
One bit of economic theory that does seem to be working is that higher yields in a country or area support the exchange-rate. Or to put it another way in more practical terms the carry trade looks like it is back. Of course that has led to a double-whammy for the ECB as it decides whether to tell us up is the new down or not.
One of the supposed certainties of QE is that equity markets rise. The liquidity provided may only weakly reach households and may not reach businesses at all but the 0.1% seem able to get it to boost their equity portfolios! The Eurofirst 300 equity index has surged since the real QE rumours began last December but even it turned lower in late May.
This subject is much more complex than it first appears as we note that money does appear as liquidity is produced but then much of the growth “disappears” as we look at wider measures. Much seems to go into asset prices although here currently we are seeing something of a set back especially in bond markets. The clearest move has been for a lower Euro exchange-rate although even it has changed direction recently. It is like looking at a battlefield where someone has laid a smokescreen!
This has not stopped some from already declaring ECB QE to be a success as economic growth pushed ahead in the first part of 2015. That ignores the impact of the falling oil price which in my opinion was a much stronger force. Actually the World Economic Forum seems not to have noticed that the oil price has bounced back to some extent, perhaps the author does not drive.
Other indicators, however, paint a different picture. Notably, price growth turned positive last month, suggesting that the threat of deflation has been eliminated.
Who would have thought that many of the effects of QE would be so uncertain so far down the road?
It is the UK Mansion House speech tonight and already it would appear we have this to consider.
Committee of the Commissioners for the Reduction of the National Debt
I am trying to decide whether that is more reminiscent of the South Sea Bubble or the writings of George Orwell!
Apparently we will have a budget surplus in “normal times”. So not any time soon and maybe never?