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Quantitative easing in the US and Europe – Who will pay the bill?

Quantitative easing in the US and Europe – Who will pay the bill?


In response to the economic downturn began in late 2007 and ignited and a year later, the Federal Reserve, alongside the Bank of England started quantitative easing programs. One goal was recovery in consumer spending and economic growth. The European Central Bank also left behind in “printing” money, inflated balance sheets in frightening proportions. What are the similarities and differences between the objectives and results quantitative programs in the U.S. and Europe will examine in the following lines. Let’s go a few years back in history …

First QE1, announced after the outbreak of the financial tsunami in late 2008 launched in March 2009. It was a package of $300 billion purchases of government bonds. Purchases were combined to cover 175 billion of mortgage debt companies Fannie Mae and Freddie Mac. Add 1 trillion and $250 billion in so-called mortgage-backed securities. Fed finishes operation in October 2009.

The second series of quantitative easing (QE2) has been announced by Ben Bernanke in November 2010. It included purchases of government bonds worth 600 billion dollars by the end of the second quarter of 2011. This operation is carried out under the slogan “No deflation,” citing the example of Japan in the 90s. Paradoxically, he mentioned Japan because it is indicative of how such monetary interventions may lead, only to a “lost decade.” It is strange to walk along this axis, but people’s stupidity is boundless.

Comes the third series of quantitative easing by the Fed on Sept. 13 this year, QE3 (you can call it a fourth, if you add the operational twist). Interventions are launched monthly in 40 billion dollars in the open program to purchase mortgage-backed securities (MBS) and the continuation of the policy of zero interest rates until at least mid-2015 Note that this is an unprecedented support that allows the Fed to do huge monthly mortgage relief housing market – not possible without a certain amount and deadline. This seemingly lowers risk, but only seemingly. Therefore catalyze large amounts of moral hazard in the system.

Returning look back in years will clearly notice skupenostta the basic foundations of monetary policy. Usually, in times of recession the central banks try to help restore lending and thus economic activity indirectly. This is achieved by manipuliranieto base rate. To the regret of many central bankers this tool simply refused to work, or rather showed that the fundamental economic imbalances can not consolidate with monetrni “splits”. On the contrary, thus adding fuel to the burning fire.

Logically, central bankers have taken other alternative or direct intervention. That is the foundation of QE. Fed starts buying assets, often these are government bonds with money created virtually from scratch. This is done in the open market, where the main actors are institutional investors (banks, pension funds, insurance companies). They receive a “brand new” resource that can be used for new investments, which increase the money supply. This is a simplified model that is quite similar to the reality. I will not go into the specifics of the money supply because it requires significant deepening and exit within the current topic.

Surely electronic money printing has huge long-term risks. Whether you call it printing or inflating the monetary base, or swelling of the central bank balance sheet does not matter because they are equivalent concepts. It is important to understand that the current levels of money supply grew by a slower rate due to the low number of banking multiplier. Ballooning monetary base is a time bomb whose sizes are difficult to predict.

Purpose, the Federal Reserve has set are a few:

– The main objective of QE is geared towards sustainable employment growth. QE will enable the necessary boost to the economy, businesses are able to recover their capacity and growth. This in turn will lead to the hiring of more people and a subsequent increase in income.

Encouraging lending. The main argument in the hands of the Fed is that through their actions (buying government bonds) will reduce long-term interest rates. Such operations lead to increased demand for government securities, thus their prices rise. Once their yield is lower, they lower its investment attractiveness. Thus, sellers in these transactions should not re-investing their money in this type of instrument and to seek alternatives – the extension of credit, investment in corporate bonds, stocks and so on. Therefore, most of the available funds for banks can lead to more low-cost loans, more business, more spending, more robust GDP growth …

Encouraging demand for credit. This is the flip side of the same coin. This is further evidence that consumer debt is based on the fundamental ideology of the U.S. economy, however, leads her to a dangerous instability in the long run.

Combating deflation or worst scenarios in economics textbooks. If you get called up. “Credit crunch” will follow the chain of bank failures and the destruction of the entire financial system. It is instantaneous collapse of the economy under the weight of deflationary spiral. The example of the Great Depression is precisely the theme of the life of Ben Bernanke. Unfortunately, Bernanke does not deflate the differences between species and one of its effects – clearing system or to put it more clearly – removal of inefficient players and redirection of resources in an effective way.

– You must remember, however, that one of the main strategies of the first two Bernanke QE-so was to increase the level of capital market because much of the money invested in the economy right there. Therefore, another “unique” logic implied growth securities lead to an increase in available resources at household, therefore greater potential for increasing consumption.

It is interesting if you go back in time … Is like pouring money into the system by the Fed, ECB and BoE do not like the spirit of the 20s of the last century in Germany and Zimbabwe? If you look at the so-called “print” money, although that is mostly electronic process, 20s showed how a similar strategy to finance government debt go steeper incline. Plane, leading to inevitable bankruptcy and a huge social cost.

As already noted, the Fed said that QE is part of the overall monetary policy to prevent a deflationary scenario, rather than strengthen public finances. Moreover, the example of Zimbabwe is not correct, because the Fed plans to sell government bonds purchased after the recovery of the economy – ie, it is a temporary policy. The question is who is more stupid – We believe in such arguments or central bankers, if you really believe in your own words …

Ridiculous is the claim that Mario Draghi was brave because … let printing Rather, courage may be called reason and deduction of populist-grabiteskiya head of the so-called state corporatism to pour more and more … real reform of the financial system not taste of politicians and bankers …

If we look at the Maastricht treaty can clearly see that the ECB is forbidden to directly fund public deficits by issuing new money. This is the reason for the chosen mechanism – LTRO (long-term refinancing operation of liabilities). In the example of Ben Bernanke and the head of the European Central Bank (ECB) Mario Draghi has released a steady amount of “toner cartridge into the printer” or the Fed also injected liquidity levels stable banking system and boost the proper balance of the ECB (Of course, when Trichet was swelling much more serious). In the next row back to the story because LTROs scheme is an innovative mind. In the new version, just changed some of the internal features of the well-known monetary practices.

The so-called Long-term refinancing operations (LTROs) are modified version of the previous approach of short-term financing that was used for many years in the eurozone. The new specifications are introduced by the ECB to combat the debt crisis, especially the so-called short-term fears. “Credit crunch” or freezing of the credit market. Generally, this type of schemes are borrowing from the ECB to banks in the eurozone. These tools are available at very low interest, from which comes the name of their “free money”.

The first series of the operation was launched shortly before the end of 2011. On December 21, the ECB released a shower of euro accounts of those willing to join European banks. The size of the first round of LTROs were EUR 489 billion. The loans have a maturity (duration) three years and an annual interest rate of 1 percent. The second series was announced in the early morning of February 29. She surprised the audience with a serious size, namely 529.5 billion. It is important to note that estimates of Societe Generale Group only 311 billion of the total, the second series was in the form of “new money”. This fact is very important for the efficiency of the transactions, and monetary policy in general. The second series attracted more interest when 800 institutions were involved in the process. For comparison, the number of banks participating in the first series was 523.

As can be seen this funding scheme is almost similar to the previous ones that were with maturities three, six months and one year. This period for the return of these funds is significantly enhanced, allowing some time for banks to gradually restructure … but is that so?

The mechanism of the relationship central bank – a bank is this: The banks of Europe reach out for a loan under the program by the central bank. This loan must be secured by assets in the process officially bound and the national central bank. This means that each state provides guarantees for their specific collateral loans given by the ECB.

Banks can use as collateral assets as sovereign securities with investment grade credit rating. After declines in default-level rating on Greece government bonds of our southern neighbor would not be able to be used as collateral (whether alone suppose impossible in the eurozone). At most, Spain and Italy took the opportunity to use the operations using their state bonds as collateral yields fell on them and reduce market pressures on public finances … yet … The largest purchases in the first series LTROs were notably Italian and Spanish banks. Italy took – 110 billion euros in the first series, Spain – 105 billion, France – 70, Greece – 60, Ireland – 50 billion.

Mario Draghi’s idea was to flood of liquidity throughout Europe, even smaller regional banks have access to this resource (something in style “helicopter” Bernanke). That was the reason LTRO idea is implemented in two stages, first to pave the path, and the second to bring more serious heterogeneity and number of participants. Ultimately, this line Draghi had success.

This type of loan is different from the previous SSP program, which allowed the banks to get money at a low interest rate for a period of three, six months to one year.

Goals that put Mario Draghi, were not very precise. In successive statements he made it clear that actions aimed contagion aimed at rescuing the banking system. By pouring a fresh resource is aimed loosing credit with which to support the growth in business activity. This in turn will have an effect on unemployment, which perhaps was the main target of the central bank.

Support to the real sector, passing first through the stabilization of the financial system in Europe is seriously damaged. Through two series LTROs Dear has two main objectives:
– Ability to restructure debts and
– Liquidity buffer for official bankruptcy of Greece and subsequent “credit crunch”

In this case, we can add and aim to indirect effects on the cost of financing other troubled countries like Portugal, Italy, Spain. Given the results, liquidity buffers had its effect. We observed a decrease in anxiety and lower yields state in old Europe. The case of Greece have subsided, given the already real alternative to the ECB to intervene even more aggressively.

Such liquidity injections can be used in two main areas – buying a high yielding assets and / or increase of credit to businesses and households. It was the second to target the efforts of Mario Draghi. As we know, the crisis has brought with it a tightening of the lending process and the stagnation of entire sectors, due to the smaller in size and less expensive resource value. We have seen a strong stagnation in the interbank market due to strong distrust between banking institutions. The objective of the ECB was to prevent any more serious “turning the knob”, leading to much modern word “deleveraging” and mass bankruptcies. Chaining of such scenarios can be described quantitatively, but certainly size would be great.

However, the results do not correspond with the immediate objectives, ie there was no effect of growth in lending to the real economy. Proof of this is the study of ING Finance, according to which only 50 billion of the total 489 billion for the first LTRO has evolved into the economy. Where did the money go? Although banks are generally not a big buyer of the stock market (or at least not directly), especially in old Europe, part of the funds contributed to the increase in European equities. (Of course, the indirect effects were much greater weight than direct).

The graph shown below we can trace the change of leading German stock index DAX at the two LTROs. On 21 December 2011 were quoted at levels 5,791 points, while the March 16, 2012 reached 7,157 points. At the rate this is an increase of over 23%.

Had an impact on government bonds of troubled countries, helping to reduce their returns (to December 30, 2011, 10-year government bonds in Italy had a 7.11% yield, while only a couple of months and 8 days, or 8 March 2012, it dropped to 4.81).

Most of the money is returned back to the ECB, as shown in the figure below. These are as follows: Bank takes three loans from the ECB and then deposited back with the central bank short-term deposit. The goal is to invest liquidity position under better conditions. So of course, can clearly infer a lack of confidence in the financial system of the old continent.

The displayed graphics can follow the trend in overnight deposits at the ECB in the banking sector. Some of the first LTRO December 21, balances increased dramatically, reaching over half a trillion euros at the beginning of next year. This amount is greater than the absolute value of the entire first LTRO. Of course, we see that the upward trend began before December 21, 2011, but if the individual called. new loans, the total amount will see a complete overlap. The amount of new loans “new loan proceeds” are about 193 billion euros, of which we can conclude that all new resource is deposited back with the ECB. This is the purest form sterilized liquidity. The effect is the same as in the current issue of the ECB bilsove.

This in turn led to a situation like this overseas. Monetary base, or so-called “state money” reported an increase, while the banking multiplier remained at relatively low levels, which is why the bank money to remain under the ticking bomb. As we know, the money supply expands mainly from money created by banks or particular bank money.

A large part of the QE and pouring LTROs remain almost “fixed” buffer for emergencies. Here, however, there is no economic logic, because a similar time efficient allocation of capital is impossible clearing system is impossible to build a new foundation is impossible.

One of the main differences between the ECB LTROs and other similar mechanisms from the U.S., Japan and Britain is linked to the ECB target resources directly to the bank provides financing at a time when even the interbank market confidence was disappearing. Especially if we talk about longer-term financing.

The reaction of the markets were nearly equivalent after LTROs operations and those overseas QE I, QE II. Only six months after the announcement of QE II lightest crude rose by over 40% (see chart below). In an identical scenario developed and marketing Brent after the first LTRO.

For me, the effects and the QE II and LTROs capital markets was not directly but indirectly wholly. Even from the balance sheets of the Fed and the ECB, we see that cash flows have not gone to either the capital or to komoditi markets. This means that all market participants and we assume the effects of a possible merger of this liquidity in the markets and the real economy – commodity inflation. That is why gold shares and continue to “life vest” against dollar inflation. Will can not witness the deflationary scenario, at least in the short term, if these direct effects remain only in theory. Unfortunately, again we come to similar inefficiencies in monetary policy – market participants make their analyzes of the foundation, and the differing and often changing political and populist solutions.

One can not ignore the serious risk that the ECB takes itself because LTROs have a price. On one hand, the risks are both long and short term. Serious concerns have emerged after seeing that only 504 billion were in the form of new money. If we look to the collateral the banks received loans risks are focused in two directions – the failure of securities themselves or bankruptcy of the banks borrowed. If you look at the balance sheets of the ECB, shortly after the second LTRO total assets reached 3 trillion. Equity of 10.76 billion, does leverage ratio of almost 300 to one! In this situation, and small variations in the stability of the collateral or the debtor could lead to serious disturbances.

If you look at the risks to QE overseas are identical to those in Europe. Here are some more systematic presentation of specific risk situations:

1. Certainly the first place is the oppression of future inflation. Already mentioned in several places that the possible increase in bank money can lead to severe monetary inflation more strongly expressed in the stock in the company of more open scissors social polarization in society. And, the truth is that we have inflation in a long time. Do not look just manipulated some baskets – see the gold price does not fly in the sky, very expensive because it is not … just devalue the dollar – ie inflation. And not only gold view all komoditi markets – the trend is obvious.

2. State of chaos in international trade. The new money-Fed turned over and can be used by households and firms to import new products and services. Very lucrative deal, right? At first glance, while commercial partners simply stop its exports to that country. In case you remember how China stopped its export of some valuable mineral resources, particularly given the Fed’s quantitative programs.

3. Logically, we come to the actual exchange rate risk – and the dollar and the euro. And LTRO QE and long regarded as a weapon to kill the value. Following strong economic logic similar monetary injections can not but lead to loss of value. The production of real goods, industrial development, thus creating added value in the economy lags at times by lightning printers worldwide …

4. Short-and long-term errors agony. I will not repeat myself, but history shows that monetization of fiscal and structural economic problems purely analgesic is not treated. Instead of delaying the actual solutions increases geometrically social value.

5. The effect of the debt commitment. More and more money, low interest rates lead to a lack of savings, entry into more and more debt and spending. Of course, we have GDP growth, nominal values ??no longer matter. Unfortunately, real quite unpleasant to display. Manipulation of natural resource allocation leads to greater indebtedness of households and firms, and this is quite logical. The alternative is also losing, but in the future. Bitter choice, right?

If everything is straightened by printing money, none of us had to work to make any effort to improve their lives. Naivety, stupidity or deliberate hypocrisy – it does not matter. The truth is that there is a similar recipe, very easy to be true. Income is made, the wealth is gained and savings accumulate slowly and consistently …

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