Just yesterday we wrote about how central banks are “running out of road” to be able to provide any meaningful incremental “stimulus” to the economy (see “Bridgewater Calculates How Much Time Central Banks Have Left“). As Bridgewater’s Ray Dalio pointed out, at some point in the not so distant future, the ECB and BOJ will have purchased every eligible security possible. Even if the central banks do continue to expand the scope of their existing programs, eventually they will simply run out of securities to buy.
Ok fine, central banks are “running out of road”, however at the same time they are terrified to rip (or even peel) the band-aid off. This has put the system in an unstable equilibrium: on one hand, central bankers – as even they admit – need to hand over the growth impulse to governments, yet on the other hand, they are terrified of even the smallest change to the status quo as they know they may undo some 7 years of “wealth effect” creation overnight.
How much longer can this charade continue?
While many would be quick to answer “indefinitely” that is not true, because with every bond, ETF or stock, purchased by central bankers they come to the point where they either monetize the entire lot, or they increasingly impair the functioning of the capital markets (just ask the dozens of marquee hedge funds that have shuttered in recent years).
We concluded that post by summarizing Dalio’s analysis which suggested central banks could continue the party for another 4-5 years.
Which means for those market participants who have already torn most of their hair out from participating in a centrally planned “market” where nothing makes sense, get ready because, the insanity may last another 4 or 5 years longer…
But, at least one central banker thinks she can do much better than that. If Bank of England deputy governor, Minouche Shafik, has her way then interest rates will hover around 0% in perpetuity and other forms of quantitative easing will become the “standard tool of central bankers.” Per the Telegraph:
“Deep structural forces have combined to depress the level of interest rates at which the economy would be in equilibrium, obliging us to rely ever more on monetary policies that were once considered unconventional.”
The neutral rate of interest “is closer to zero than it used to be. You can see from charts that historically, interest rates have always been at around 5pc, going back hundreds of years… even in ancient Babylon,” she said.
“Something has changed in the last decade with big forces of demography, global savings and investment, and the neutral rate has fallen and is likely to stay low for a very long time.”
Despite the fact that the Bank of England just cut its base rate to a new record low of 0.25% last month, Shafik expects the next move will be another cut as the Bank tries to combat a Brexit-related economic slowdown. Yes, because previous cuts have provided such meaningful, measurable economic improvement…why not.
“There is no doubt in my mind that the UK is experiencing a sizeable economic shock in the wake of the referendum. Any reduction in openness or need to reallocate resources will necessarily imply a slower rate of potential growth for the economy,” said Ms Shafik, noting a hit to business investment as well as flows of foreign funds into the country.
“It seems likely to me that further monetary stimulus will be required at some point in order to help ensure that a slowdown in economic activity doesn’t turn into something more pernicious.”
But if you’re worried about who will ultimately take the BOE reigns and keep the centrally planned bubbles going, infinity is, after all, a long time for any mere mortal to maintain control, we ask you to fear not as Shafik will be leaving the BOE soon to head up the London School of Economics where she can teach a whole new generation of central planners the art of bubble making.
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