This past week, central bankers of the capitalist advanced economies (AE) of the USA, Europe and Japan gathered in their annual meeting in Jackson Hole, Wyoming—an exclusive resort deep in the western Rocky Mountains of the USA.
Janet Yellen, chair of the US central bank, the Federal Reserve (Fed), and its entire Board of Governors, were joined by the heads of the European Central Bank (ECB), Mario Draghi; the Bank of Japan (BoJ), Haruhiko Kuroda; and the deputy governor of the Bank of England (BoE), Ben Broadbent.
Global Monetary Shifts Underway
This year’s meeting was particularly important, as the Federal Reserve continues winding down its more than $4 trillion Quantitative Easing (QE) bond buying program that was launched in 2009, and, even more importantly, as debates intensify within the Fed itself over when and how to raise interest rates after holding them near zero levels after more than five years.
The consequences of the Fed’s $4 trillion QE program of the past five years are now abundantly clear: QE has done little to stimulate real investment in the USA economy, while contributing increasingly toward creating financial asset bubbles in the US stock, corporate junk bond, leveraged loans, and other global financial securities markets.
QE is always about bailing out bankers and wealthy investors and restoring losses to banks’ and investors’ balance sheets. All the public spin about QE—i.e. that it is about reducing unemployment, creating jobs, stimulating recovery of the housing sector, etc.—is largely ‘ideological cover’ for QE’s real objective: banker-investor balance sheet subsidization and bailout.
The Fed began winding down QE over the past year not because jobs are being created in the USA, but because bankers and investors are now more than fully bailed out and, equally important, because continuing the massive direct liquidity injections into the economy via more QE is now having contradictory, negative effects: it is causing financial asset bubbles to grow worldwide.
Although it won’t be revealed until well into 2015, at Jackson Hole the Fed has decided, this writer believes, that the contradictions of five years of excessive liquidity injections have reached such a point that it is not sufficient just to phase out QE. The excess liquidity of five years of QE and near zero rates must somehow also be retracted by the central bank if the financial bubbles are not to explode in yet another financial crash like 2008. And that liquidity retraction will be accomplished by raising interest rates, according to the Fed.
Raising interest rates is therefore the Fed’s coming policy shift. Its debut is just a matter of timing and method. However, the Fed cannot, and will not, raise rates before the November 2014 midterm Congressional elections in the US; nor before it becomes clear what are the composition and new policies of the new Congress, which won’t convene or decide on fiscal policy until late winter or early spring 2015.
But the Fed’s coming policy shift may simply trade off one set of contradictions for another. Raising rates to check growing financial asset bubbles, in order in turn to avoid future financial instability, may in fact prematurely precipitate that very same financial instability. More on this point to follow. But first a brief review of the growing contradictions within, and between, the policies of the central banks of the AEs that emerged at Jackson Hole.
The United Kingdom’s Bank of England (BoE) has come to a similar juncture as the Fed, and faces a similar set of internal contradictions as the Fed: i.e. retract excess liquidity via higher interest rates before financial bubbles burst vs. cause those same bubbles to burst prematurely by raising rates. Or, alternatively, don’t raise rates and allow the asset bubbles to grow larger and burst later, with perhaps an even greater negative impact on the banking system and real economy down the road.
The BoE quickly joined the Fed back in 2009-10, providing massive QE injections to its banks and lowered rates to near zero. As in the USA, UK bankers and big investors were also quickly bailed out. Further QE is thus now viewed by the BoE as unnecessary for purposes of further bailout. And raising interest rates is the new central policy question before the BoE, as before the Fed in the USA.
When, how, and by how much rates are raised in the UK is only contingent upon contemporary geopolitical events: the Scotland secession and sanctions on Russia related to the Ukraine crisis (and specifically on wealthy oligarchs’ investments in London Banks and property markets). Politics must be clarified first before any rate rise is decided. Moreover, it is not likely the BoE will move to raise rates unless it has a clear signal from the Fed that it is about to do so as well.
Interest Rates and Financial Instability
While QE clearly generates financial asset bubbles and little real economic growth, the matter of raising rates carries its own set of unknown consequences and eventual contradictions.
It is already clear that discontinuing QE has had the effect of raising interest rates in the USA over the past year by around 1%, which has caused a stall in the US housing recovery. Will a further more direct rise in rates introduced by their central banks slow the economies of the USA and UK even more?
Raise rates to retract excess liquidity too fast and/or too much, and the result may be to precipitate a rapid sell off of asset prices that will lead to a new round of defaults, credit drying up, and a spillover to the non-financial economy that accelerates a descent to recession. So what is the correct magnitude and speed to which to raise rates? No central banker today knows for sure, or even remotely.
While it is historically clear now, after five years, that lowering interest rates to near zero has done little to positively stimulate real economies in any of the AEs since 2009, the opposite may now be the case.
It may well be that a small increase in rates may relatively quickly have a significant negative impact on the real economy— in the USA or UK—and in turn the global economy. In other words, just the opposite outcome of the big drop in interest rates that began in 2008-09 and continued for more than five years, which had virtually no effect on the real economy. To restate, a big decline in rates may have little positive net effect on the real economy, while a small rise in rates may have a large net negative effect on the real economy.
Without going into detail, this writer believes this likely insensitively of the real economy to declining rates & greater sensitivity to rising interest rates is explainable by the fundamental changes in the global financial system that have occurred in recent decades: the global shift to speculative financial asset investing, the global economy’s consequent rising ‘systemic fragility’, and the escalating levels of accompanying debt—government, corporate, and household—that underlay those changes and fragility.
In contrast to the Fed and the BoE, the stakes are even higher for their central banker cousins, the ECB and the Bank of Japan.
The ECB’s central bank guru, Mario Draghi, faces a different set of internal contradictions than the Fed and BoE. The Eurozone’s banks have not been bailed out and remain fragile—as recent events involving banks in Portugal, Italy, eastern Europe, and even (somewhat less evidently) France show growing cracks in the Euro banking system. Without a true central banking union in the Eurozone to date, the ECB’s financial bailouts have been less efficient. The ECB’s less efficient bank liquidity injections also started much later, in 2011-12, than the USA and UK central bank engineered bank bailouts that began in 2009. Its ‘Long Term Refinancing Option’ liquidity programs, LTRO/TLTRO, have clearly thus far failed—whether failing to stimulate financial asset markets, to reduce Euro banks’ fragility, or to stimulate the real Eurozone economy.
Eurozone financial asset markets today continue to lag the USA-UK counterparts. As a consequence, a crescendo of demands are now rising from business interests in the Eurozone for Mario Draghi to add a bona fide QE program to its current insufficient LTRO liquidity approach. Draghi will be unable to resist this rising pressure from Europe’s financial capital elite for much longer and, this writer predicts, will introduce a QE within the next 6-12 months.
A similar shift in monetary policy toward still more liquidity injections is also underway in Japan. The BoJ’s contradictions are somewhat like the ECBs, but with a twist. Beginning early last year, the Bank of Japan (BoJ) introduced its own massive QE program—at least as large as the USA’s as a percentage of Japan’s own GDP. That QE had an effect similar to all QEs—it resulted in historic escalation of stock, bond and other financial markets, making investors even more wealthy than before. So, unlike the Eurozone, Japan already has introduced a QE and a massive liquidity injection at that. But as Japan’s stock and bond boomlet of last year has collapsed, investors there want still more. Investors are now once again clamoring for yet another QE injection in Japan.
Is Central Bank Global Coordination Breaking Down
One thing that is apparent from last week’s Jackson Hole meeting is that global central banks of the AEs are no longer coordinating their global monetary policies as before, by all continuing massive bank liquidity injections in one form or another. They are beginning to diverge. The Fed and BoE are about to shift policy to try to retract liquidity by raising interest rates. In contrast, the ECB and BoJ are about to inject even more liquidity into the global economy that will drive their rates still lower and boost their stock and bond markets still further.
Each of the central banks’ policies not only carry their own set of internal contradictions, but promise to lead to new mutual contradictions between them. A rise in rates in the USA and UK will to some extent negate the effects of more liquidity injected by the ECB and the BoJ. Specifically, higher rates in the US-UK will divert to the US-UK a good part of the new excess liquidity injected by the Eurozone and Japan. Conversely, more liquidity injection by the ECB and BoJ in the form of still more QE will have the consequence of stimulating global financial asset bubbles that the higher interest rates in the US-UK seek to contain.
The net outcome for the central banks of the AEs together may be that financial bubbles and instability will continue to grow, while real economic activity will in net terms continue to slow.
Jackson is Full of Holes
What the foregoing shows is that AE central bankers—by diverging instead of coordinating their policy shifts after Jackson— are continuing to dig themselves into an ever-deeper economic hole than they already have.
For the past five years the central bankers of the AEs, with their policies of QE and near zero rates, have been digging a hole of their own on their own central bank balance sheets, in order to bail out the capitalist banking system and rich investors from the original hole those same bankers and investors dug for themselves in the first place in the run-up and financial crash of 2008-09.
The financial asset losses incurred by the global financial elite by 2008-09 represented a massive hole of debt, write-downs, and losses on their own bank balance sheets—i.e. the original hole in this case. In bailing them out, the Fed and other central banks essentially filled the hole in the private banks’ balance sheets by issuing QE and zero rates. Banks were paid money for near-worthless assets by the central bank (QE) or were allowed to borrow free money (zero rates), thus offsetting the big hole of losses on their own balance sheets. But in so doing, the central banks (Fed, BoE, etc.) dug another second hole, this time for themselves. The ‘dirt’ (liquidity) from that second hole in effect filled the bankers’ first hole.
Bankers and wealthy investors got QE and zero rates; in exchange central bankers got their bad debts and worthless assets. The central bankers’ hole deepened, while the bankers and investors’ hole was filled.
At Jackson Hole it appears that both the ECB and BoJ are about to let the banks and global finance elite dig themselves even deeper holes. Draghi and Kuroda are thus filling in the bankers’ holes while giving them the means once again (the shovels?) to dig still more new holes.
The global financial system has not been ‘saved’ by central bank policies of the past five years. It’s all been a shell game. One hole debt and losses filled by digging another. The debt and losses on bank and wealthy investor balance sheets have not been retired. Those losses have just been transferred—from one hole to another: The losses on the balance sheets of the private banking system have been transferred to the central banks—which of course has always been the primary function of central banking systems under capitalism in the first place.
The original hole therefore remains, it has just been moved to another location, to central banks’ balance sheets. Moreover, new holes on top of the original are now being dug anew as well by those very same private bankers and investors.
While Yellen (Fed) and Carney (BoE) are trying to figure out how to backfill their own central bank holes by raising rates, hoping that the hole will not prematurely cave in in the process, Draghi (ECB) and Kuroda (BoJ) are digging themselves a bigger hole while encouraging bankers to re-dig their old hole anew. As one group fills their hole, another group expands theirs. The net result is that the dirt of liquidity and debt keeps on piling up worldwide, leading to another inevitable financial crash and still another deep hole to fill by central bankers worldwide.
Jack Rasmus is the author of the book, ‘Obama’s Economy: Recovery for the Few’, Pluto Press, 2012, and ‘Epic Recession: Prelude to Global Depression, Pluto, 2010. He hosts the weekly radio show, Alternative Visions, on the Progressive Radio Network. His blog is jackrasmus.com, his website www.kyklosproductions.com, and twitter handle @drjackrasmus.