Since the great financial crisis, central banks have printed in excess of $10 trillion. They call it “quantitative easing” (QE) but it is really just money printing.
Some of it is actual paper cash but it’s mostly digital currency. “Initial Coin Offerings” are all the rage at the moment, sparked by the rise of the crypto-currency Bitcoin.
If any of these new shadow forms of cash had issued $10 trillion I think we could confidently predict what would have happened next: their values would have collapsed to nothing. But back in the mainstream financial markets, a vast increase in the money supply has had little obvious effect.
Critics of QE are legion. They say that inflation may not have risen but it will; asset bubbles in equity and other financial markets are dangerous and worsen wealth inequality.
Some insurance companies are quietly going bust with their business models being eroded – by zero or negative interest rates. Bankers claim that low interest rates mean they lose money on deposits; it’s a good thing that nobody listens to banks any more since they seem to be quite profitable all the same.
Some investors even complain that QE is responsible for the current low levels of volatility observed in many different financial markets, especially equities. Only those who benefit from volatility would ever think that this is a genuine problem.
Those critics need to ask a different question: what would have happened without QE? The trouble with economics is that we don’t have a definitive way of answering these “what-if” questions: we can’t, for obvious reasons, perform alternative experiments.
The big mystery is just why has inflation been so dormant in the face of all that money printing? Perhaps the answer is that without QE we would have had serious deflation – rapidly falling prices. QE may have worked in the sense that it has raised inflation from what it would otherwise would have been: from seriously negative to barely positive.
Deflation
That merely raises another question: why would we have had deflation? There are plenty of suspects. Believers in "secular stagnation" such as former US treasury secretary Larry Summers think that a combination of forces are driving global growth – and prices – down. Ageing populations, low investment, absence of transformative technological innovation (the latest iPhone doesn't count) and an excess of global savings are all suspects.
With inflation persistently under shooting forecasts, central banks have had to continue QE for much longer than they expected. Interest rates have been raised slightly in the US and, more recently, Canada – where there is a property bubble going on that is very reminiscent of the Celtic Tiger. In the US, the Federal Reserve clearly wants to raise rates further and are incredulous that wages are not rising in the face of an unemployment level below its natural rate.
Interest rates
Longer-term interest rates – bond yields – have have been on a falling trend everywhere for three decades. Something quite fundamental has been going on that is only imperfectly understood.
Bond yields affect everything – we saw during our own crisis one aspect of how the bond markets influence all aspects of economic life. Investors have for years been saying that the “bond bubble” is about to burst – and then they promptly lose money as those bond markets refuse to behave as they “should”.
Closer to home, the European Central Bank is crawling its way towards ending QE. This matters – a lot. The most obvious impact is being felt by the euro – its rise is being fuelled by the ongoing recovery in the European economy (helped in no small part by years of QE) and forecasts that a European interest rate rise is now around the corner. That said, such are the diminished expectations around rates few people are willing to bet that mortgage rates will be going up this year or next.
Being a small part of a large monetary union means that interest rates are rarely, if ever, going to be suitable for domestic economic conditions. We might fret that interest rates are now too low for the Irish economy but that would be to miss the point.
Budget speculation
They are going to stay too low for a long time. Perhaps for a very long time if global inflation remains absent. The boom that is clearly evident, in Dublin at least, still has plenty of monetary rocket fuel.
It’s the time of year for budget speculation. We rarely see talk about tax and spend policies set in an overall policy context. In any event, the talk is always the same: how little is the room for manoeuvre, how the time isn’t quite right for radical reform.
But we should realise that the economy will be receiving bundles of monetary stimulus for a long while yet and doesn’t need another kicker from fiscal policy. This really is an opportunity to be radical: build more houses and infrastructure, especially in public transport. Raise revenues in the obvious places, especially motoring: introduce congestion charging and higher petrol and, especially, diesel, taxes.
