Easiest Credit Worldwide Shows No Signs of Abating as Fear Index Plummets
Central bankers are taking a break rather than hitting the brake.
Even as they pause campaigns to spur economic growth, Federal Reserve Chairman Ben S. Bernanke, European Central Bank President Mario Draghi and counterparts at the Bank of England and Bank of Japan aren’t taking signs of recovery for granted. That’s a shift from 2011, when some greeted an improving outlook by considering or embracing tighter monetary policy, only to see expansion fade.
The bid to guarantee growth suggests officials at the four key central banks won’t hurry to pull down the $9 trillion wall of money on their combined balance sheets or boost interest rates stuck near record lows. They also stand ready to add more stimulus if the recent rebound proves another false dawn.
“The major central banks have learned there are deep, pernicious problems,” said Nathan Sheets, New York-based head of international economics at Citigroup Inc., who held a similar position at the Fed until August. Now they are taking a cautious approach on where their economies are headed “and a more simulative stance of monetary policy.”
Cumberland Advisors Inc. and Fidelity Worldwide Investment have bought equities and commodities in response, and Credit Suisse Group AG advises investors to focus on assets such as equities and gold that tend to gain amid long-term inflation. A Credit Suisse index of nine stocks that benefit from synchronized quantitative easing -- including Paris-based Electricite de France SA, the world’s largest nuclear-power producer -- has risen about 19 percent in the past six months.
Investors should “play the liquidity-expansion express,” said David Kotok, who helps manage about $2 billion as chairman and chief investment officer at Sarasota, Florida-based Cumberland. “Markets are adjusting to the condition of continuing and persistent huge excess” of central-bank cash.
Officials now are taking stock after seeking to revive economies in one of the most rapid-fire rounds of monetary easing since the global financial crisis began five years ago. There were 29 interest-rate cuts worldwide in the past four months and $1 trillion in asset-buying in the last seven, according to Bank of America Merrill Lynch calculations as of March 6.
“We are in a peculiar environment whereby the policy makers remain so nervous about another growth relapse that their extreme monetary policies have perversely supported risk,” said Stephen Jen, a managing partner at the London-based hedge fund SLJ Macro Partners LLP. They “are in a fear mode, while investors are in a greed mode.”
Seeking to guarantee the recovery is a switch from 2011, which also began with economies improving. The Fed ended its second round of bond purchases in June and the next month released “exit-strategy principles” that outlined how it would unwind its balance sheet and normalize monetary policy. The ECB went further, raising its benchmark rate 25 basis points in both April and July to 1.5 percent.
Similar complacency could spell “a premature curtailment of central-bank liquidity,” which hurts the world economy, said Trevor Greetham, director of asset allocation at Fidelity Worldwide Investment in London. He helps manage the equivalent of about $214 billion and last month adopted an “overweight” position in equities and commodities in his multi-asset funds for the first time since July.
After the ECB and Bank of England stood pat last week, the Fed isn’t likely to take further steps to bolster U.S. expansion when officials meet tomorrow, said Dana Saporta, New York-based U.S. economist for Credit Suisse. Officials will instead discuss the likelihood of further declines in the 8.3 percent unemployment rate and potential threats of costlier oil, she predicted.
“As far as any substantive changes to policy, we’re not looking for much,” Saporta said.
This follows a period when the Fed introduced new measures aimed at defending growth. In January it released for the first time projections for its target interest rate and said inflation and joblessness may warrant low rates through late 2014, extending a previous terminus of mid-2013.
Having held its benchmark near zero since December 2008 and purchased $2.3 trillion in assets during its two quantitative- easing programs, the Fed said in September it will swap $400 billion of short-term debt with longer-term debt through June to further cut borrowing costs.
It “wants to keep things juiced up, even though things are looking a lot better now than they did,” said Eric Green, chief economist and head of rate strategy in New York at TD Securities Inc. and a former economist at the New York Fed. Unemployment has fallen from 9.1 percent in August, and companies created 734,000 jobs in the past three months, compared with 471,000 in September-November.
U.S. policy makers are signaling they may be open to more steps, such as a third round of bond purchases, or QE3. A “few” said economic conditions could warrant buying more “before long,” according to minutes of their January meeting.
Fed regional presidents have publicly disagreed on the need for adding stimulus, with San Francisco’s John Williams saying QE3 is “definitely not off the table,” while Atlanta’s Dennis Lockhart said he doubts the gains would outweigh the “longer- term potential costs.”
The ECB also is pausing after returning its benchmark rate to a record low of 1 percent in December, freeing up collateral rules and lending banks an unprecedented 1.02 trillion euros ($1.34 trillion) for three years.
That’s paid off, with investors crediting Draghi for helping stabilize Europe’s two-year debt crisis. Italy’s 10-year bond yields have fallen below 5 percent from more than 7 percent in January, and the Bloomberg Europe Banks and Financial Services Index gained about 16 percent since Dec. 30.
Data including purchasing-managers indexes suggest resilience in the economy, even though gross domestic product contracted 0.3 percent in the fourth quarter and inflation accelerated to an estimated 2.7 percent in February -- breaching the ECB’s goal of just below 2 percent.
In a sign of potential discord, ECB council member Jens Weidmann, who heads the Bundesbank, has begun warning that the central bank may be taking on too much risk.
Against this backdrop, Nomura International Plc’s Jens Sondergaard retracted his forecast for even lower rates and perhaps more asset buying. The London-based economist still predicts the benchmark will stay at 1 percent through 2013, and counterparts at JPMorgan Chase & Co. and Morgan Stanley continue to see a further cut.
“The key at the moment is to keep all options open,” Sondergaard said.
Meanwhile, the Bank of Japan boosted bond purchases in its asset fund by 10 trillion yen ($121 billion), surprising 12 of the 13 analysts surveyed by Bloomberg before the Feb. 14 decision who predicted no change in policy. The BOJ also introduced an inflation target, with the 1 percent goal set at a rate that hasn’t been seen since deflation gripped Japan in the late 1990s.
The bank’s timing was unexpected because the economy was showing signs of rebounding from an annualized 0.7 percent contraction in the fourth quarter, as industrial production and retail sales topped analysts’ estimates in January. Policy makers meet in Tokyo tomorrow.
Even if Japan’s “economic improvement doesn’t suggest more easing is coming soon, the BOJ knows it can’t be complacent,” said Hideo Kumano, who worked at the central bank and is now chief economist at Dai-Ichi Life Research Institute in Tokyo.
The Bank of England held its fire last week after boosting its bond-buying plan by 50 billion pounds in February; it will reach the target of 325 billion pounds ($509 billion) by May. Again there are divisions forming, with Martin Weale indicating he may not favor further purchases and David Miles saying there’s a case for “aggressively” loosening policy.
The world’s easy money leaves a JPMorgan Chase measure of rates in the developed world at 0.58 percent, just five basis points above the trough in late 2009, and the bank’s economists predict the average will fall to 0.5 percent by June.
Unable to cut much lower and forced into unconventional bank loans and asset purchases, U.S., Japan, euro-area and U.K. central banks have seen their combined balance sheet swell to about 25 percent of GDP from 10 percent in late 2008, according to Michala Marcussen, global chief economist at Societe Generale. She anticipates another 4 percentage point gain this year.
Tighter Fiscal Policy
Central bankers have valid reasons to assess the outlook before acting. The world economy still could be threatened by a reigniting of Europe’s debt crisis or further gains in oil prices, which have risen about 23 percent in the past six months. Governments are tightening fiscal policy, banks are restricting lending, China’s economy is slowing and elections in some 60 nations from the U.S. to France and South Korea mean political uncertainty.
Stopping the liquidity injections may itself be enough to harm stock markets, according to Garry Evans, head of global equity strategy at HSBC Holdings Plc in Hong Kong. Between March 31, 2010, when the Fed concluded its first quantitative easing, and August 27, 2010, when Bernanke signaled it might restart, the Standard & Poor’s 500 Index fell 9 percent.
At the same time, doling out even more liquidity could risk unintended consequences such as inflation, addicted banks and asset bubbles, said SLJ’s Jen. The spread between U.S. Treasury Inflation-Protected Securities and nominal bonds already suggests prices will rise 2.29 percent during the next decade, up from a 2011 low of 1.67 percent.
Monetary easing in developed countries is complicating life for emerging markets by increasing commodity costs and price pressures in nations whose currencies follow the dollar, according to Spyros Andreopoulos, an economist at Morgan Stanley in London. That results in a monetary “merry-go-round” that exports inflation back to the industrial economies through more- expensive goods.
Brazil’s President Dilma Rousseff last week bemoaned a “monetary tsunami” hitting her economy, and the Banco Central do Brasil accelerated the pace of interest-rate cuts.
“Central banks are behaving like there is a free lunch,” Jen said. “There will be consequences.”