By Michael Baxter
It's been a busy week for QE. Japan hit the virtual printing press again. This time it was QE7. The latest minutes from the Bank of England’s interest setting committee implied more QE is on the cards. And you will no doubt recall that the US Fed released its latest version of QE recently. This time it said it is going to spend $40 billion a month buying up assets, for… well it has not said for how long, just for as long as necessary.
Finally the ECB has revealed its own version of QE. Now this may come as something of a shock, but apparently central bankers in Germany are not so keen.
And last week, Jans Weidmann, top man at the Deutsche Bundesbank, was quoting Johann Wolfgang von Goethe. That’s the German author who wrote about Faust, and pacts with devils. In one of the stories from ‘Faust’ the devil disguised himself as a fool, and persuaded the emperor, who was suffering from too much debt, to solve his problem by printing more money. The result, of course, was runaway inflation.
Now the media are paraphrasing Mr Weidmann sayng that he has called QE the work of the devil.
Meanwhile, as if to prove the German central banker right, there is a growing consensus that some extra inflation may be exactly what we need to pay down debts, without creating one mother of a depression.
It is just…
First of all, evidence that QE leads to inflation is pretty feeble. We live in a world of fractional banking, which means banks create money through their lending. For reasons we are all familiar with, banks are not keen on lending at the moment, not at all. This all means that there is a danger of the money supply contracting so fast that deflation will descend on the global economy like a giant hammer, beating down green shoots wherever they appear.
Central banks may wish to create inflation, but whether they can do so is another matter entirely.
For an individual country there is evidence that QE can be mildly inflationary, because it pushes down the value of a currency. But you can’t have all currencies falling at once. When Japan, the UK, the US and the Euro area all unleash QE at the same time, while China keeps to its policy of maintaining a link between the yuan and the dollar, the currency effect of QE pretty much gets cancelled out.
The real problem is not so much that QE leads to inflation; it is that all it really does is try to get things back to what they used to be like.
It does push down on interest rates, driving up the price of government bonds, making all other assets look cheap, forcing them to either rise, or at least not crash. Those encumbered with huge debts (or most of them) find that, thanks to low rates, they can manage to pay their way.
As a result the economy is on a kind of hold. The underlying problems that caused the crisis in 2008 are not being fixed, and so it drags on, and on.
QE's snag is that it is it not accurate. It is the bluntest of instruments, and right now, any stimulus measure needs to be targeted.
Part of the problem is demographics, and there is no easy fix to that one.
Part of the problem is that for decades, savers have been risk averse. Money has gone into assets that do not create wealth, and not enough money has gone into supporting the ideas of entrepreneurs.
This article is ©2012 Michael Baxter of Investment and Business News, who also offer a fantastic newsletter that you can sign up for at http://www.investmentandbusinessnews.co.uk/