Few would argue that Quantitative Easing maintains its potency, more than ten years after it helped to prevent the Great Financial Crisis to turn into a full-blown depression.
QE, you may recall, enabled central banks to inject liquidity into the financial system, and keep interest rates low. It restored confidence to the banking system and boosted stock market values to record levels.
Anger has led to Brexit in the UK and the Trump presidency in the US…This is why we shall see a return to fiscal expansion, possibly in its modern guise of Modern Monetary Theory
But QE never managed to restore full confidence. Even now, companies and individuals remain reluctant to borrow, making it impossible to restore the banks, and the global economy, to health. A view is developing that politicians will end up using fiscal expansion, assisted by money printing, to buy off social discontent.
Interest rates are marooned at – or below – zero due to a lack of demand for debt. Money is changing hands at a snail’s pace. Price inflation is subdued. Trade protection has returned. Japan’s central bank has been involved in bizarre attempts to buy back Exchange-Traded Funds to end its 30-year economic slump.
Anxiety still exists in the money markets. In September 2019, in an echo of 2008, several US banks decided to hoard cash, rather than lend it to the money markets following stress tests which forced the Federal Reserve to supply emergency funding.
The world has also embarked on a period of Schumpeterian creative disruption, where automation (and migrants) are undermining pay prospects. So we should not be too surprised at the way electorates are reacting against a status quo which once nurtured them but now undermines their way of life.
Anger has led to Brexit in the UK and the Trump presidency in the US. It has led to the first sustained rise of right-wing populism in Europe since the war.
This is why we shall see a return to fiscal expansion, possibly in its modern guise of Modern Monetary Theory, where governments pump money into their economy to keep its citizens quiet. Which is a variant of what we saw in the US in the 1930s.
As well as standard fiscal expansion, which runs up state debt to achieve full employment, MMT advocates argue that governments should create new money to fund infrastructure. They say governments could create “helicopter” money to go straight into the pockets of consumers.
They add that the authorities will never go bust, because they are printing their own money.
Price inflation would (allegedly) remain under control, provided new money is not invested in parts of the economy which are running at capacity. Family offices, of course, would beg to differ given that new supplies of money will surely, dilute the rest and hit the bond market hard. We shall see.
In the interim, Andrew McNally, chief executive of Equitile Investments, is not sure we shall see full-blown MMT. But he believes we are travelling in that direction, providing support for the stock market this year.
He believes Boris Johnson’s Conservatives would accept central bank monetisation of government spending, and “embrace some form of Modern Monetary Theory despite its inherent flaws”. The Fed is not a fan of MMT, but Trump has told the US central bank to lower rates and expand its balance sheet.
Dylan Grice, co-founder of Calderwood Capital Research, recently advised the Swiss family office Calibrium. And he argues MMT, despite its drawbacks, could appear desirable to politicians.
“If I was on the right, I could finance enormous tax cuts. If I was on the left, I could fund New Deals, more doctors and nurses, more teachers, rail system upgrades, affordable housing, a shorter work week, and so on. And that is one of the reasons I think it’s going to happen. People believe what they want to believe in proportion to how desperate they are.”
South Korea has already loosened its budget after twenty years of discipline. Japan is contemplating yet further fiscal reform. Politicians in Europe, even Germany, are calling for some form of fiscal expansion. There is talk of fiscal expansion in India. In case you’ve forgotten, the Chinese have been recycling their trade surpluses for years.
Ray Dalio, founder of Bridgewater Associates, the $160 billion hedge fund group, expects an expansion of MMT: “The system would have to be engineered in a way that decision making would be in the hands of wise, not politically motivated, and highly skilled people.”
He adds: “It’s difficult to imagine how the system will be built to achieve that. At the same time, it is inevitable that we are headed in this direction.”