Punch is no longer the only intoxicant at the party

The interconnected nature of the global economy means that even if a central bank isn’t creating a crisis by itself, a separate central bank or financial institution might be creating one for it. In 2016, central banks across the world face unprecedented challenges. Perhaps more so than ever, the factors underlying the challenges facing central banks are exogenous. This is exemplified by the cases of the central banks of the United States, China the EU.



The US Treasury has printed $3.7 trillion since 2008 (Cox, 2016), in an effort to generate growth, to bring inflation to its target level and to reduce the crippling US debt. So far, it has only succeeded in the third of these objectives. Meanwhile, US dollar reserves held elsewhere are being invested in domestic stocks and bonds: the respective foreign ownership of each reaching $5.9 trillion and $6.2 trillion in 2015 (Long, 2015). This, in turn, has contributed to an uncomfortably high PE Ratio of 25 on the S&P 500 (Multipl.com, 2016) and historically low bond yields.

The People’s Bank of China (PBOC) has the considerable task of shifting China’s economy from an investment-driven model to a consumption-driven model now that it has reached excess capacity. It is tasked with achieving this against the backdrop of a faltering shadow banking sector estimated to hold around $2.2 trillion in debt (Weinlad, 2016), a government-led policy of loosening capital controls (Economist, 2016a) and a housing market bubble (Bloomberg, 2016).

The European Central Bank (ECB) has also turned to quantitative easing to stimulate growth and achieve its target of 2% inflation. It printed approximately €60 billion each month for a year but consumer prices still fell by 0.2% (Economist, 2016b). Its interest rates have also been in negative territory since 2014, and look to continue falling in the short-term as quantitative easing is extended to March 2017 ‘or beyond.’ (Jones, Moore and Wigglesworth, 2016). Its work is also conducted, recall, in the context of contrasting fiscal regimes of EU member states.

Crises are being created; to what extent central banks are complicit in their creation is debatable. Former Federal Reserve chairman William McChesney Martin Jr., famously said that the Fed’s role is to order “the punch bowl removed just when the party was really warming up.” (Greenspan, 2007, p.121). The problem is that punch is no longer the only intoxicant at the party.

References

Cox, J. (2016). $12 trillion of QE and the lowest rates in 5,000 years…for this? CNBC, June 13, 2016. Available online at: http://www.cnbc.com/2016/06/13/12-trillion-of-qe-and-the-lowest-rates-in-5000-years-for-this.html [Retrieved: September 24, 2016]

Economist (2016a). The yuan and the markets. The Economist, January 14, 2016. Available online at: http://www.economist.com/news/leaders/21688396-strains-currency-suggest-something-very-wrong-chinas-politics-yuan-and [Retrieved: September 24, 2016]

Economist (2016b). The new mediocre. The Economist, March 3, 2016. Available online at: http://www.economist.com/news/finance-and-economics/21693974-ecb-will-do-something-its-meeting-next-week-what-effect-new [Retrieved: September 23, 2016]

Greenspan, A. (2007). The age of turbulence: adventures in a new world. Penguin Books.

Jones, C., Moore, E., Wigglesworth, R. (2016). ECB pledges to extend easing until March 2017 ‘or beyond’. The Financial Times, December 3, 2015. Available at: http://www.ft.com/cms/s/0/88d23588-99b6-11e5-987b-d6cdef1b205c.html#axzz4LJdhiOMk [Retrieved: September 25, 2016]

Long, H. (2015). Foreign investors can’t get enough of the U.S. CNN Money, October 1, 2015. Available online at: http://money.cnn.com/2015/10/01/investing/foreign-investors-buy-us-stocks-bonds/ [Retrieved: September 20, 2016]

Weinland (2016). China financial regulator clamps down on shadow banking. The Financial Times, September 22, 2016. Available online at: http://www.ft.com/cms/s/0/4bb772de-1045-11e6-91da-096d89bd2173.html?siteedition=intl#axzz4LJdhiOMk [Retrieved: September 23, 2016]