Friday, December 18, 2015

Is Quantitative Easing “Excessive” and “Passé”?

 Much discussion has been going on lately about the stance of the Fed’s monetary policy, the near zero interest rate or QE (quantitative easing) policy. Given the relatively positive numbers characterizing the American economy in terms of predicted growth rates and lower unemployment rates, Janet Yellen has decided, reluctantly it seems, to modestly raise federal funds rate from 0.25 percent to 0.50 percent. As noted by Bloomberg “ that’s still way below its 2 percent average since 2000 and the 3.2 percent of 2000 to 2007.”

But is the state of the US economy the right indicator for the required monetary policy of the premier currency of the world economy? Is, in other terms, a purely American debate the right framework for analyzing the optimal supply of the main “vehicle” currency in world trade? Of course a few other currencies are also used in international trade and as reserve instruments, such as the euro and the Japanese yen. Monetary authorities in control of both are currently implementing QE policies.
And as noted again by Bloomberg, JPMorgan Chase & Co.’s average interest rate for eight developed nations and the euro-area weighted by size is on course to end 2016 at just 0.36 percent. That’s a full 3 percentage points below the average of 2005 to 2007, which could mean that expansive monetary policies are still implemented worldwide.

However, a slowing down of the dollar supply could well affect negatively the world economy at a time when its overall performance is lackluster, and almost zero or even negative inflation rates generally prevail. 

That said, are the fears of QE policies having been somehow “excessive” before and after the 2008 crises, feeding “unsustainable” asset bubbles all around the world that are waiting to burst, creating the conditions for a devastating new financial crisis, warranted? And what about, on the other hand, of the environment of “great stagnation” and insufficient inflation worldwide?

A quick look at the evolution of both monetary aggregates and trade growth rates in the world economy, as reported in the table below, gives a different picture of a monetary expansion barely sufficient to sustain the growth of world trade. If vindicated by more precise study of data, that could be a factor in explaining the now long, post 2008, “great stagnation” and such a hypothesis would warrant further quantitative easing by the three main central banks for some time to come.


                                              Aggregate Growth Rates

                                              2005-2014        2008-2014

M1 (OECD total)                   + 193 %              + 166 %
M3  (OECD total)                  +  171 %             + 135 %

M1  (Euro Area)                                                 + 152 %
M3   (Euro Area)                                                +  110 %
World Trade (Exports, Merchandises and commercial services, WTO data)
                        1995-2014      2005-2014

                           + 376 %           + 183 %

The overall, although admittedly impressionistic, conclusion that one can derive from these data is that monetary expansion was just sufficient to sustain the growth of world trade, and maybe insufficient post 2008.

The current need would thus be one of a prolongation – rather than an interruption -- of QE policies, US included. It could be that each central bank narrowly concentrating on the sole state of its own economy, missed the overall picture of required increases in international liquidity.

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