The central banks are caught in a trap of their own making

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by Shaun Richards

The last eighteen months or so have seen central banks deploy monetary policy on a grander scale than ever before. There was a rush to cut interest-rates an enormous surge in bond buying and credit easing. But now they are facing quite a few credibility problems. Let me start with the Federal Reserve in the US.

The taper announcement cometh, but just not this week, according to the CNBC Fed Survey.

The survey of 32 market participants shows they expect the Federal Reserve to announce a reduction in its $120 billion in monthly asset purchases in November and begin to taper in December. The Fed is expected to cut purchases each month by $15 billion.

The first rate hike does not come until the end of next year.

That was from CNBC yesterday and continues the theme of any reduction in QE bond buying always being just around the corner on a straight road. After all it was supposed to be at Jackson Hole in August and then in September. As you can see the idea of an interest-rate hike seems to terrify them so much it has been kicked into the long grass. Also if we look into the detail the idea that a US $15 billion per month reduction is significant pales when we look at this.

If the Fed doesn’t slow the pace of its monthly bond purchases in the next few months, its balance sheet will be close to $9 trillion by year end. In the past three months alone, its holdings have expanded by $384 billion, to $8.45 trillion. ( Lisa Abramowicz ).

As you can see they have become addicted to bond buying and QE.

Might as well face it, you’re addicted to love
Might as well face it, you’re addicted to love
Might as well face it, you’re addicted to love ( Robert Palmer )

Why should they act?

In the second quarter the US passed its previous peak in terms of economic output or GDP as 19.36 trillion dollars replaced the previous peak of 19.22 ( 2012 prices). So the emergency is over and we are back to debating what growth rate it can achieve. Also there is this.

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.3 percent in August on a seasonally adjusted basis after rising 0.5 percent in July, the U.S. Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 5.3 percent before seasonal adjustment.

The Fed does not target CPI as it follows the central banking rule of targeting the lowest inflation measure it can find. But there is plainly a lot of pressure here and inflation is running hot. Last night I tweeted a paper by Christophe Barraud which suggested this.

For a few months, one of the key developments in the US housing market has been the rebound of the rental market. According to the latest figures, US rents increased by more than 10% YoY in August.

Many are expecting an uptick in rents and as they are 31.1% of the US CPI ( mostly Imputed Rents) it would have quite an impact as officially they are between 2.1% and 2.6%. The issue of measuring rental inflation is complex in terms of “new” and “old” rents but for out purposes today we see that inflation is not only higher but a significant sector looks set to go higher.

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So all roads point towards not only a withdrawal of the stimulus but a rise in interest-rates away from 0.1%.

Euro area

Here is Estonia central bank Governor Muller from earlier.

“I realize that it would be a problem if there is a very sharp cliff effect at the end of the pandemic emergency purchase program.”

“One option would be to expand the pre-crisis plan above the current 20 billion euros per month.”

A potential increase in the older quantitative easing program is “part of the discussion we will have on how to phase out PEPP and what it would mean for asset purchases going forward.”

Regular readers will be aware that this has been the plan all along. Assuming that the PEPP does end next March – any economic decline will see it extended – then the existing programme will be expanded. The ECB has spent the pandemic trying to play a two-card trick as if they are any different in reality. It was simply a way of relaxing boundaries yet again. This is what I am tempted to say is a special case but also becoming more common.

What I mean by the more common is that the ECB has been for some time turning Japanese as QE looks permanent. But it is also a special case in that it has plunged further into the icy cold world of negative interest-rates than anyone else with its -1% for the banks via the various TLTROs. Is  there a hint of this ending? No and yet.

The euro area annual inflation rate was 3.0% in August 2021, up from 2.2% in July ( Eurostat)

With inflationary pressure around ( producer prices rose by 2.3% in July alone) the ECB is feeling the heat here. But growth has not been as good as in the US and this keeps happening.

Ifo institute cuts Germany 2021 GDP growth forecast to 2.5% from 3.3% previously ( ForexLive)

Germany with its large export sector is being particularly hit by the slow downs in China and elsewhere. Also the supply shortages remain in play.

Volkswagen’s truck division Traton is the latest manufacturer to warn the global shortage of semiconductors chips has jeopardized its deliveries ( Bloomberg)

Japan

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There was a Bank of Japan meeting earlier and here is something that is really quite significant via LiveSquawk.

BoJ’s Kuroda: Pent-Up Demand Will Help Consumption Recover –

Rise In Wages Has Been Relatively Moderate –

Do Not Think Weak Wage Growth Is Cause Of Consumption

Regular readers will be aware that wage growth in Japan is another thing that is just about to rise ( which gets copied and pasted by the media) but does not happen. The whole period of Abenomics has been that on rinse and repeat.

Things are in fact so bad that the only real news is their metamorphosis into a band of climate change fighting ninjas.

These terms and conditions prescribe the principles for the Bank of Japan’s
funds-supplying operations to support financing of the private sector for
their efforts on climate change (i.e., open market operations through which
the Bank provides loans against eligible collateral within the amount
outstanding of investment or loans by eligible counterparties to contribute
to Japan’s actions to address climate change).

Basically it is free money ( 0%)

Comment

The contrast between now and the start of the pandemic could not be more striking. Then central banks rushed into action to deal with an emergency.

You say it’s urgent
So urgent, so oh oh urgent
Just wait and see
How urgent my love can be
It’s urgent ( Foreigner )

But now on the other side of the coin it is a possible US $15 billion dollar reduction in monthly bond purchases and that is definitely maybe. Interest-rate rises are for the long grass and now we see economies slowing again, so any real change is disappearing into the distance. How long do they think they can get away with this?

 

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