It’s still fashionable around the world to print more money. Japan, the Euro area and the UK are still doing it as a matter of policy. They do so because the credit-creating powers of the commercial banks have been limited by past mistakes, by bad loans, and by the need to hit new targets for prudence. Central bank money printing has fuelled an enormous bull market in government bonds. This has spilled over into shares, as some have sold their bonds to the government only to reinvest the money in shares.
Meanwhile in Brazil and some other emerging market counties the Central Banks are restraining credit in the commercial banking system by keeping interest rates high. Their markets have been damaged by an old-fashioned engineered credit crunch with high interest rates. This year the Brazilian stock market has started to recover strongly after the recession and the interest rate squeeze.
The latest figures from the OECD for broad money growth, as measured by M3, are quite encouraging. The Euro area has managed 4.5%, the US 6.9% and Japan 2.8%. The Bank of England latest figures for UK broad money, M4, show a lively 8% annualised for the three months to June, or 5.8% for the twelve-month figure. This has been sufficient to ensure growth in credit to households of more than 6%. All these figures imply these economies can grow modestly without undue inflation with these levels of money and credit growth. The Chinese growth, at 11.8%, should easily accommodate the government’s growth rate target of around 6.7%. The Brazilian M3 growth of 10.3% could produce a better balance between GDP growth and inflation compared to the immediate past. The UK will now experience some imported inflation, following the fall in the pound.
So why do we still need special monetary measures? Why isn’t this moderate expansion of money and credit giving us a sustainable and acceptable overall rate of growth?
Part of the reason is expectations. Advanced countries do not want to settle for 1% to 2% growth. The Eurozone relies on money expansion from the Central Bank, as they do not agree on any increase in public spending or reduction in taxes to generate more output. In Japan and the UK it is currently fashionable to want both monetary and fiscal stimulus.
Part of the reason is the maldistribution of the cash. It is most obvious within the Eurozone, where too much of the money finds its way into the surplus countries. Germany and some other northern states rack up large surpluses, which they end up depositing with the European Central Bank. The deficit countries are starved of cash, leaving them with financing problems for their public spending and company pay bills. As the surplus countries will not share their money or lend it willingly on generous terms, the demand goes up for more money to be printed in the hope that some will find its way to the deficit countries. Within single country currency areas more of the strains are taken care of by transfers of money within the system to poorer areas and people through government policy. Even here, politics debates endlessly the imbalances between rich and poor, with some advocating more transfers by taxation and redistribution. Others argue for more transfers by encouraging more spending by the better off to create work and income for the rest.
The great recession and banking crash of 2008 in the advanced world has left many people unhappy and governments uncertain of what to do. The wish to punish the commercial banks, and the fear of a further banking collapse, led the regulatory authorities to be very cautious. This delayed and reduced new lending to get the economy moving again. The decision to undertake substantial money creation was blunted in its effects. Where the authorities bought bonds from banks there was often no follow through with extra activity – where individuals or companies sold bonds to the Central Bank, they too sometimes sent the money abroad or found some other way to avoid it providing much domestic stimulus. It was possible for the main governments of the world to execute large money creation without triggering inflation, with only a diluted impact on output and income growth.
We expect more of the same in the months ahead. Some expansion of budget deficits is likely in Japan, the UK and the US after the Presidential election, to add impetus to the low interest rates and created money. In the UK the Bank is adding to monetary easing at a time when the money supply and credit are growing quite well anyway.
The above article by John Redwood, Charles Stanley’s Chief Global Strategist, was first published by Charles Stanley on 16th August 2016.