Market Review for Week Ending 6th July 2012
With the UK, the eurozone and even China all now loosening monetary policy, it would appear monetary easing is ‘the new black’. This approach to boosting the global economy is starting to look like the last refuge of policymakers who are otherwise short on ideas. Might these measures work? Or, given their limited success to date, should investors expect little in the way of an economic uptick on the back of these latest actions?
Just to recap, the UK has added another £50bn to its quantitative easing programme, to be implemented over the next four months, while the eurozone has dropped interest rates to 0.75% from 1%, with many expecting a drop to 0.5% over the next few months. For its part, the Chinese government has cut interest rates for the second time in two months, leading many to speculate the upcoming economic data will be worse than predicted.
But, given this has hardly done the trick so far, why do policymakers expect it to work this time? The reason given by the Bank of England for further quantitative easing is that the economy looks weak and the crisis in the eurozone continues to act as a drag on growth. Yet, with gilt yields already at record lows, this is unlikely to feed through to cheaper borrowing for individual and corporates.
Banks are already under pressure to deleverage and a further round of quantitative easing is unlikely to encourage them to lend more to risky smaller businesses. There is also a limit to how many businesses want to borrow. Admittedly, there is enough anecdotal evidence of banks refusing credit to small businesses to give a lie to their claim no-one wants to borrow, but even large companies with cash on their balance sheets are not investing. The environment is simply not conducive to any kind of risk-taking.
So why are policymakers persisting with monetary easing? Part of the problem is that there are not many other solutions. The debate in Europe is now ‘austerity versus growth’, but there is no agreement on what a growth agenda would look like. Encouraging an element of inflation through quantitative easing, while at the same time taking some measures to cut costs seems to be the most creative strategy policymakers can devise.
In the meantime, markets quickly rose on the back of the latest monetary easing but then dipped again as they began to fret about the economic climate. In general, investors are still struggling to predict the ultimate outcome. Every round of monetary easing appears to be discounted more quickly. The jury is still out on whether this latest round will have any impact on economic growth.