In his latest Economic Outlook, Neil Williams, Group Chief Economist at Hermes Investment Management, warns that the global ‘splint’ of QE will continue to be used to hold up asset prices, as central banks dare not lift the tide of liquidity hiding the sharp rocks beneath.
However, the risk for pension funds is that ‘looser for longer’ may have many years left to run. As a result of their asset purchases, the world’s big four central banks’ balance sheets have in total ballooned to over $13trn (see chart below). This liquidity injection to the private sector is equivalent to about three quarters of US GDP, or 1¼ times China’s.
This means one half of the world’s total central bank assets has been amassed in just seven years - that is, after the last US recession ended in mid-2009. QE has since been a less than perfect remedy, and in the faster-growing US and UK has probably had its day.
Early QE can be credited with unclogging the financial system in 2009, providing liquidity, keeping bond yields down, and yield curves steep. It also loosened the monetary reins further when policy rates were already on the floor. When we factor it in, the US and UK are both running negative rates.
If the 1930s is any guide, we are only half way through our QE...
As we know from Japan, the main benefit is to keep yields down for even longer. Yet, by distorting financial markets, suppressing saving, and increasing the funding strains on many pension schemes, QE may be fast becoming a problem not the solution.
With central banks the biggest sponsor of bonds, private institutions may increasingly struggle to find the bonds they need. It’s doubtful they can step away without unintended consequences. Their own ‘skin in the game’ via their QE-bloated balance sheets also makes this unlikely.
So, central banks seem hell-bent on running QE. In which case, with growth under threat, funding costs low or negative, and infrastructure needs high, it surely makes sense for the stubbornly slow-growth economies such as the euro-zone and Japan to relax fiscally - using the aggressive QE they’re doing anyway to cap any subsequent rise in bond yields?
In the meantime, with Japan still accelerating QE after 17 years, most investors have never experienced a major central bank turn it off. The last time the US Fed did QE proper was to pull its economy out of the 1930s depression.
Then, it ran QE unbroken for 14 years up to 1951 - despite double-digit inflation touching 20% in 1947. Clearly this was a different time. But, if it’s in any way a guide, we could say we are today only about half way through our QE!
Chart: As central banks keep pumping hard to prop up growth assets
Size of central banks’ balance sheets into and since QE (all $ bn). Grey is US recession
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