Markets Signal Central Banks Are Losing `Awe' Even If They Shock

  • `No question' policy makers were effective in crisis years ago
  • Focus turns to G-20 finance chiefs meeting in Shanghai

Central banks are running into diminishing returns from their use of easy monetary policies, seven years after first championing quantitative easing to save the world from depression.

The new reality is clear across global financial markets: The Standard & Poor’s 500 Index reached a 22-month low in the U.S. Tuesday, and Japan’s benchmark equity index careened on toward levels unseen since 2014, while the yield on the country’s 10-year bonds dipped below zero for the first time. Stocks also slid in Europe, where memories of the region’s debt crisis are being stirred by rising bond yields in Portugal and a slide in Greek banks.

All that despite the Bank of Japan’s surprise shift to negative interest rates, the European Central Bank’s signal it will deploy new stimulus next month and speculation the Federal Reserve will slow its campaign to raise interest rates. Underscoring the lack of policy potency is that the yen and euro are both climbing even as policy eases.

"The markets are wondering, well, we’ve had these non-conventional monetary policy experiments for the last six or seven years and they haven’t caused a sustainable boost to global growth, so what will the latest moves do,” said Shane Oliver, head of investment strategy at Sydney-based AMP Capital Investors Ltd. “It’s a reasonable question to ask given the events of the last few weeks.”

MSCI World Index of Stocks
MSCI World Index of Stocks

The shifts may strengthen the argument of opponents to the "whatever it takes" approach by central banks to stoke inflation expectations, appetites for risk and, ultimately, economic growth.

"Right at the beginning, there’s absolutely no question that what the central banks did was totally appropriate to try to get the markets operating again," William White, an adviser to the Organization for Economic Cooperation and Development, told Bloomberg Television on Tuesday. "More recently, the objective of that policy has changed totally. It’s trying to stimulate aggregate demand. The honest truth, I think, is it’s not capable
of doing that in a sustainable way.”

White’s analysis is an echo of a conclusion reached by former BOJ Governor Masaaki Shirakawa on his bank’s first foray into quantitative easing early last decade. Shirakawa said in 2008 that it "was very effective in stabilizing financial markets and the financial system" though "had limited impact" in resolving the problem of stagnant economic growth.

Better Shape

To be sure, the main economies aren’t now in the shape they were in 2008, when the Fed turned to asset purchases in an effort to unfreeze credit markets. Job growth in the U.S., Germany, U.K. and Japan indicate that while expansions have been below their long-term averages, they may prove durable. Also, cheap oil may spur spending by companies and consumers, and fiscal policy is turning stimulative in some economies.

Such narratives were absent on the Tokyo Stock Exchange Tuesday, where the Topix index nosedived 5.5 percent, the most since August, without any fresh news about the economy or even worries about China to serve as a trigger for sales. The yen gained for a second straight day, and on Wednesday was trading at 115.24 as of 8:53 a.m. in Tokyo.

Banks Hit

Financial companies were among the hardest hit, fueled by concern that the BOJ’s adoption of negative rates will hurt their margins. The Topix Banks Index is down 21 percent since the day before Governor Haruhiko Kuroda led a 5-4 vote to follow European counterparts into charging banks for some of their reserves, complementing the BOJ’s record asset-purchase program.

While Kuroda called his new plan the “the most powerful monetary policy framework in the history of modern central banking,” it’s packing nothing of the punch he got from his original stimulus announcement in April 2013, or his expansion of the program in October 2014.

In Europe, traders also are increasingly doubtful about ECB President Mario Draghi’s ability to weaken the currency by delivering more policy surprises. There, too, bank shares have led declines, with the Euro Stoxx 600 Banks Index tumbling 5.6 percent on Monday alone. Portugal’s 10-year bond yield has risen to its highest since 2014, while Greek stocks are the weakest since 1990.

Across the Atlantic, Fed Chair Janet Yellen also addresses lawmakers this week under pressure to strike a balance between sounding confident on the domestic economy and recognizing the risks posed from abroad and in markets. Goldman Sachs Group Inc. is among those to switch its forecasts recently, to a June Fed rate increase instead of March.

China Break

Traders in China are enjoying a break from the carnage, as their markets are closed this week for the lunar new year holiday. Monetary policy makers in that country have been constrained in their own monetary stimulus out of concerns about reigniting a credit boom and sending the yuan’s exchange rate sliding further against the dollar.

With calls from some quarters for coordinated moves by the world’s top economies, one opportunity for joint communication -- if nothing else -- comes in a little over two weeks, with the Group of 20 finance chiefs meeting in Shanghai. ECB Executive board member Benoit Coeure said on Monday that “global coordination” will be discussed by the G-20.

For all the current disappointment in markets, central banks show no sign of shrinking from further action. Kuroda and Draghi have both said there are no limits to their easing programs. Central banks could still cut rates even more deeply, buy more bonds or commit to longer time-frames for easy money.

Further Capacity

“The notion that central banks and regulators could not act if the financial panic were to turn into a serious threat to the real economy and hence to jobs looks wrong,” said Holger Schmieding, chief economist at Berenberg Bank in London. “Central banks can bolster confidence if they really have to in order to support the real economy.”

Yet for Japanese companies considering wage and investment plans for the fiscal year that starts April 1, the current market ructions pose a threat to sentiment. The BOJ itself identified the danger of market volatility to confidence in its decision to ease further last month.

"The period of central bank ‘shock and awe’ operations is likely to be behind us," Stephen Jen, co-founder of SLJ Macro Partners LLP in London and a former International Monetary Fund economist, wrote in a note on Friday. "This will be the year that ‘gravity’ will overwhelm the central bank policies," he said, recommending selling equities during rallies.

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