One of the reasons it’s fun to write about monetary policy is the lack of consensus. Within the field, no subject is as stimulating — or important — as the debate over how central bankers should think about the risks of financial excess.
It’s not usually a good thing when your biggest export market, biggest source of foreign direct investment, and the country that owns your entire banking oligopoly experiences a major economic slowdown. Yet New Zealand, at least in the past decade or so, watched its fortunes wane as Australia’s mining sector boomed, while the bust in Oz has gone hand-in-hand with stronger growth in Middle Earth.
You might think a central bank looking at inflation significantly below its target, a relatively weak jobs market, and a policy interest rate well above zero would be keen on loosening up. In the case of Australia, however, you would be wrong.
Compared to most rich countries, Sweden handled the twin challenges of the 2007-8 crisis and the never-ending euro crisis with aplomb. The share of people in Sweden with a job is at all-time highs. Real output per person is at all-time highs, and has grown much more than in most other rich countries over the past ten years. Underlying inflation is essentially at its long-term average. The trade surplus remains massive. And Swedish house prices continue to float into the stratosphere. Yet despite all this, Sweden’s central bank has been unusually aggressive in trying to stimulate its economy by cutting interest rates far below zero, buying assets, and cheapening its (already undervalued) currency. We recently had the chance to talk to a former Swedish central banker about this. He suggested the Riksbank could potentially justify its behaviour as an attempt to heal structural problems in Sweden’s jobs market.
Where the BoJ leads the ECB may/may not follow. You will all remember that last week the BoJ unveiled QQE with yield control — a 10yr yield target that may signal the end of QE as we know it.
Good idea: More reactive than a quantitative target; can signal long-term commitment to policy; potentially reduces purchases required if market believes your yield target is credible; potentially good for effectiveness of fiscal policy; potentially good for banks as it can imply a steeper yield curve; and allows for an “automatic exit” from the policy if everything goes to plan.
Is the central bank in the business of lending bank reserves for final and absolute settlement purposes, or is it now in the business of lending safe assets like Tbills for final and absolute settlement purposes?
That is, by diluting if not outright abandoning the quantitative/ balance sheet expansion aspect of its policy with a move to QQE with yield control has the BoJ admitted that the current stage of central bank action is nearing its limits? Citi’s Buiter et al seem to think so:
It has been called China’s Great Ball of Money, the vector through which bubbles come and pass. Of course any particular bubble is not the beginning. There is no beginning in a China which is more and more interconnected, meaning its risks and excesses flow as easily as that giant ball of money. But just as property turns to stocks turns to bonds turns to property once more… this bubble is a beginning*. From SocGen’s Wei Yao, with our emphasis: … asset price appreciation seems to be worryingly unstoppable. Especially, housing market indicators continued to show a brisk momentum in sales and prices, but a muted construction recovery. Even the officials at the central bank admitted that there is a bubble.
The Fed sure seems to be getting comfortable with the idea of acting as a centralised counterparty for collateral transactions. It’s unclear whether the market’s quite as enamored with the idea. This year’s Jackson Hole conference was on monetary policy implementation, which often serves as a shorthand for the following questions: how should the Fed control interest rates, and how big of a role should it play in financial markets? While the topic seems arcane, it’s important to understand how thoroughly the Fed has changed its approach to controlling interest rates (and through that, its relationship with markets). The topic isn’t just for technocrats — the debate now is over whether that change should be a permanent one.
Or illusions… Before that though, here is a thing we know and have known since the ECB launched its (probably) soon to be extended QE programme: Draghi et al will have to deal with the idea of QE scarcity — it’s running out of available bonds to buy. It’s already coming up against a self-imposed constraint and it has been well flagged that the big one, Germany, is looming as an ever larger roadblock. Here is a thing we also know and have already mentioned in this post: The constraint is self-imposed and, as such, can be alleviated. Like this, for example: