February 14, 2013
Title: QE Infinity takes hold
Spurred by the US Federal Reserve, European Central Bank, and Bank of Japan, global equities started the year with a bang. Indexes shot up across the board during January. The United States led on news that the country would avoid dreaded “fiscal cliff” tax increases and spending cuts which were to occur if Democrats and Republicans could not reach a deal.
The actual Congressional agreement reached centered on tax increases on the rich, with the can kicked down the road on harder issues. However markets were satisfied and quickly returned their focus to the $85 billion worth of monthly securities purchases the Fed has promised to make to keep down interest rates and stimulate the economy.
This latest round of quantitative easing, dubbed “QE Infinity” due to its indefinite nature, has practically been forcing investors to buy stocks. The Fed’s securities purchases have pushed US after-tax interest rates below zero in real terms, where they are expected to remain for the foreseeable future. This has left investors looking for yield with little choice except stocks.
In early February the European Central Bank, which has been easing the money supply for some time, said it would be keeping its main interest rate at a rock-bottom 0.75%. Last year troubles hit a series of peripheral European economies ranging from Greece, to Portugal, Spain and Italy, leading to worries that one or more might pull out of the euro zone.
The EBC responded with a range of securities-buying programs designed to push borrowing costs down, which it in large part managed to do. The central bank’s efforts culminated in an off-cited statement by Mario Draghi, its president, that the EBC would do “whatever it takes” to save the euro, which substantially boosted market confidence.
As if that were not enough, Japan too, recently elected a new government - led by Shinzo Abe, - which indicated that it will put its foot on the accelerator. Japan, like most Western countries, has a near zero-policy rate. Conventional economic doctrine says that you cannot push rates lower. However by firing up inflation to its new 2% target, the Abe government can push interest rates below zero in real terms. The goal is to drive down the yen and make Japanese exports more competitive on world markets. Initial signs are that the plan is working.
However how this will all play out, is anyone’s guess. While the major powers deny it, there is an element of “competitive devaluation” in the air, as they all attempt drive down domestic currencies at the expense of competitors. If unchecked this could lead to further imbalances and possibly the imposition of more trade barriers.
The other worry is that countries trying to spark inflation just might succeed. The challenge, as economists who were around during the 1970s know, is that inflation is much easier to create than it is to get rid of. Those concerns though, even if they do materialize, lie down the road. For now, markets are focused on the party.
© 2011, 2010, 2009, 2008, 2007, 2006, 2005, 2004, 2003, 2002, 2001, 2000, 1999, 1998
Peter Diekmeyer Communications Inc.