All markets rally as a Federal Reserve President talks of more Quantitative Easing and the IMF has similar plans

6th October 2010 by Shaun Richards

Yesterday saw quite a surge in world equity markets with the Dow Jones Industrial Average in America leading the way as it rose 193 points to 10944. This was followed by a rally in the Japanese Nikkei 225 equity index of some 172 points to 9691. As European equity markets are rallying again this morning then holders of shares have in general had a good 24 hours. Some of this was caused by the monetary easing introduced by the Bank of Japan although so far it has promised more Quantitative Easing rather than actually delivered it. However if we remain with Japanese issues we can see that if it hoped to weaken the Yen’s exchange rate with its announcements then matters are not going particularly well as it is at 83.05 versus the weak US dollar as I type. As the Euro has been strong recently the Bank of Japan has managed to sustain its improvement there and now stands at 115.1. Should the Yen rise further against the US dollar then the Bank of Japan is likely to be forced to intervene again. It started its intervention when the Yen rose through the 83 barrier against the US dollar and a fortnight later we are at 83.05! At the time the intervention started I wrote this.

Over time I expect the foreign currency markets to challenge the willingness of the Bank of Japan to weaken its own currency.

One interesting side-effect of this has been on the spread between the Japanese Nikkei and the Dow Jones Average which when the intervention began was at 1010 points whereas this morning it is at 1253 points so for all the repeated efforts of the Bank of Japan the Nikkei has again underperformed over the last 2 weeks.

The Gold Price Rises Again

One beneficiary of the recent rise in talk about Quantitative Easing has been the gold price which had a surge of its own yesterday, so gold bugs should be smiling today. The front month Comex futures price rose by a not inconsiderable 29.8 US dollars per ounce or some 2.2%. So if you priced equities in gold they would have fallen in price yesterday! So equity holders may well be grateful that we are no longer on the gold standard. This morning we have seen further rises with the price currently up another 8.7 dollars and now stands at a new high of 1348 US dollars.

If you stop to think for a moment these two moves seem unlikely to occur together. Put in a nutshell equities have hopes for the future but gold is expressing fears for the future and I am reminded immediately of Kipling’s phrase “and ne’er the twain shall meet”. However I have a third factor here and it is also contradictory and leaves us with a type of unholy trinity in this respect. US government bonds are also rising particularly at the shorter maturities. I remember remarking a while ago about the 2-year maturity’s yield falling below 0.5% and the recent QE-lite announcement took it into the lower 0.4%s well now its yield has dropped to 0.4% exactly. So now we have it equities and government bonds and gold all rallying at the same time, so much for the power of diversifying your investments!

What is causing this apparent end to investment diversification? Step forward Charles Evans

I would like to draw your attention to an interview given by the President of the Chicago Federal Reserve Bank Charles Evans to the Wall Street Journal and the emphasis is mine.

I knew it was going to be bad. And it is not improving. We’re pushing out the growth prospects. I just think it calls for much more than we’ve put in place. My view on accommodation at the moment is not data dependent. I think we’re there.”

We need more accomodation………….So yes, I’m in favor of more accommodation…………..I would clearly favor more accommodation……… I just think additional action would be helpful.

If his views remain the same in early November then we can expect supporters of Mr.Evans view to be voting for more asset purchases or what has been named QE2. Now as I already expected Mr.Bullard to vote in favour we may be beginning to build something of a quorum and we have had hints from William Dudley too. I suspect that this is the real reason behind the surge in equity,bond and gold markets. They are hoping to see a surge of liquidity from the US central bank the Federal Reserve. As an example Goldman Sachs has been banging this drum for some time and is currently forecasting some extra 500 billion US dollars worth. I am not saying this because I believe in the Vampire Squid’s predictive powers as they have been rather weak of late but I do say it as an illustration of current market expectations. So the move by the Bank of Japan which was more proposal than action coincided with a rather dovish interview from a FOMC member.To continue my theme of what I consider to be unholy trinities we had a member of the Bank of England’s Monetary Policy Committee Adam Posen calling for world Quantitative Easing only last week. Perhaps markets feel they already know what is coming next, lots more liquidity and are looking at what it did last time.

If we look at another theme of mine we again have someone in authority confirming that they are keen on more QE in spite of the fact that they are unclear what it will actually achieve.

I think that additional asset purchases would have an effect. I think it would be beneficial. I worry that that alone would not be enough to address the particular view that I have.

Regular readers will be aware that it is my opinion that we need something a little more definite than “I think it would be beneficial” before one unleashes an incredible amount of liquidity. Actually I consider it to be very close to outright negligence. Furthermore we get an implication that other measures may also be tried.

We have to think a little more carefully about the potential tools that we have available to us.

So after the recent rebuttal of the idea of raising the inflation target by FOMC chairman Ben Bernanke we are starting to get other FOMC members hinting at moves in this area. At this point they are merely talking of raising the US Consumer Price Index towards 2% but just like in recent western military interventions my concern is of what has become called “mission creep” particularly when it comes from an individual who appears willing to commit himself to extraordinary measures and I mean this in both concept and size that he only “thinks” might do some good.


So my view is that in effect the worlds markets are “front-running” expected moves by the worlds central banks. The moves of equity and bond markets are direct responses to an expected surge of liquidity or in the case of bonds expected future purchases. The gold rise is, of course, a response to an expected implication of the rise in liquidity and perhaps to the expectation of further falls in the US dollar exchange rate. However Mr. Evans when talking about his plans for inflation also said.

Convincing the public that this is what we intend to do, that could be a useful tool.

Well with a rally of 2.2% in a day he appears to have had no trouble at all convincing gold investors! I suspect,however, that they may have heard a slightly different message to what he intended to give them.

This issue of the worlds markets in effect being subverted to the whims of central bankers is to my mind a real danger for us going forwards. I have argued before that if nothing else it is way beyond the “pay grade” of our current crop of central bankers. But even if we moved ourselves for a moment into an alternative universe where central bankers were achieving their objectives would that be worth the damage being done to the worlds markets?Talk of front-running reminds me of the dangers of insider trading and also reminds me that allegedly a member of the FOMC has been briefing investors before the official minutes are released. There are a lot of dangers here and of course George Orwell got there way before me when talking about the dangers of official and government power, “All animals are equal but some animals are more equal than others”. There is very little more dangerous for markets than the concept of an “early wire”.

The International Monetary Fund

Whilst I am on the subject of official intervention I am reminded of the IMF. It has been rather busy in various ways recently and mostly not in a good way. Last week I reported that it had praised the UK’s austerity programme and indeed it did. At the end of the week however it then published some work which indicated that the UK’s austerity programme would reduce our economic growth rate.

fiscal consolidation equal to 1 percent of GDP typically reduces real GDP by about 0.5 percent after two years

So care is required if one looks at its pronouncements as it does sometimes only look at factors in isolation. This thought was on my mind when I looked at its most recent report on the global finance system. Some places have majored on this section which says that capital controls might need to be used by some countries but only  “as a last resort”. These days we know how quickly a last resort becomes a first resort but if you think about it this is a rather arrogant presumption of power from the unelected IMF to elected governments. I am afraid this sort of thing permeates its work. If you look at the theme of this report that emerging economies have been doing better than established ones is true but has been obvious for some years.

There have however been much darker proposals for the IMF,in my view, which have been reported much less. These fit in with my theme today of extraordinary expansion of monetary measures.  South Korea has proposed  a “global stabilisation mechanism” or GSM that would allow the IMF to offer unlimited credit without conditions to several countries at once. There are immediate problems to my mind in both “unlimited credit” and “without conditions”.I have written before about the expansion of the IMF ‘s role and indeed the financing available to it which was expanded massively following the meeting in April 2009,which UK readers in particular may associate with claims on behalf of our previous Prime Minister Gordon Brown that he had “saved the world” at that time.

I suspect I may not be the only person who can see the dangers in this. Here is the IMF’s view from IMFdirect.

We are also considering a Global Stabilization Mechanism, a framework that would allow proactive provision of financing during a systemic crisis to stem contagion.

So the worlds leaders have the opportunity to allow an unelected organisation to have the money and the means to bail the same world leaders out from any mistakes they may have made. It might sound good to them but there is an enormous moral hazard for the taxpayers of the world.

14 thoughts on “All markets rally as a Federal Reserve President talks of more Quantitative Easing and the IMF has similar plans”

  1. KG says:

    You wrote:
    “If we look at another theme of mine we again have someone in authority confirming that they are keen on more QE in spite of the fact that they are unclear what it will actually achieve.”
    As a natural cynic I see this as self interest by those who vote for policy and then themselves make money by benefiting from the results of the policy.
    It seems impossible to remove this conflict of interest as all the advisors and most members of the various nations committees are insiders.

  2. Shireblogger says:

    Notayesman, I share your sentiment and view. In reading the IMF World Economic Outlook Oct 10, did you notice their advice to Mr Osborne on fiscal consolidation. It warned that where monetary policy was at or near zero-bound base rate, the short term effects on loss of output and higher unemployment caused by fiscal consolidation could be worse, especially where consolidations were globally synchronised. But, did you see the footnotes? It helpfully mentioned that this conclusion had been derived from modelling which did not factor in Quantitative or credit easing ( at least this is what I recall them saying). I concluded that central bankers and politicians, wishing to head off heightened adverse shocks from consolidation, might take this as a signal to push the QE 2 button.Ofcourse, an additional implication to the IMF’s conclusion arises.They conclude that, in the long run, fiscal consolidation led by spending cuts would revitalise growth and were a good thing. However, I assume from the footnotes that this conclusion is drawn without modelling the effects of an eventual unwinding of Quantitative or credit easing. I might be wrong on that, so I will read the WEO again to check.

    The BoE Q3 quarterly review contains a research conclusion on QE which amused me ” Our analysis suggests that the purchases [ QE] have had a significant impact on financial markets and particularly gilt yields, but there is clearly more to learn about the transmission of those effects to the wider

    Has anyone done a projection of the effects of QE on asset classes up to 2014 and unwinding of central bank balance sheets in a western world starved of credit where the US is also starting to pay down its own public sector overdraft?

    1. Hi Shireblogger
      You pose an excellent question to which I can only give a partial answer. At this time there are no QE operatives (BoJ,Fed,BoE) with any plan to reduce it at all. I have always argued that a lack of an exit plan would prove to be a big flaw, or rather was likely to be a big flaw. So I think we get another question if we sail forward on the good ship QE2 for which a consensus (excluding me!) appears to be building will an exit strategy be possible by 2014? My suggestion would be no and we are therefore likely to hit the problems ahead with QE.

      My reason for answering this way is that as we do not know the size of QE,almost all projections at this point have little use. And rather than an answer I can only pose the question will the US be able to pay down debt in the immediate future?

      With the volatility we are seeing in government bonds which apart from the peripheral euro zone nations is upwards it is almost impossible to be sure of much except we are on an adventure lacking a map. Accordingly I too have more questions than answers

  3. SeanBroseley says:

    IMF WEO seemed to say to me (to paraphrase) if we’re cutting public expenditure the short term negative consequences are likely to be more severe in the circumstances that western economies currently find themselves.

    “measures that are legislated now but only reduce deficits in the future—when the recovery is more robust—would be particularly helpful.”

    1. Hi Sean
      On a completely separate topic as if I recall correctly you work in the pensions industry,do you come across many people affected by the lifetime allowance? I know by its nature it is not going to be that common, but discussing an individual incidence earlier today just made me wonder.

      For those unaware of the UK pension system a set of new rules came in in 2006 and some had choices to make some of which were irrevocable. Some of the choices were based on a promise to uprate the lifetime allowance which the last government abandoned starting this year. And just to confuse the picture further the new government has indicated new plans which leaves some matters about as clear as mud.

      1. SeanBroseley says:

        Yes I do come across people who are affected by the lifetime allowance – in the sense that they exceed it. Very few and far between. Scheme Specific tax free cash protection is a far more common issue.

        The new interim rules are interesting. People actually thought this meant people didn’t have to have a benefits crystallisation event at age 75 and therefore the possibility of a lifetime allowance tax charge was avoided pending the changes. No, no. no.

        1. Hi Sean
          Thanks for the reply. I had been wondering about whether 75 was still a benefit crystallisation event due to the interim changes. My mind was more on the fact that with markets so volatile someone could be a fair way away from the Lifetime Allowance pay more money in and then discover that they are over if markets turn their way. I know many will not have sympathy for those with larger funds but personally i think that systems should be fair to everyone.

          The lack of further indexation in LA also affects those at the poorer end wanting to use the triviality rules….

  4. Drf says:

    “Regular readers will be aware that it is my opinion that we need something a little more definite than “I think it would be beneficial” before one unleashes an incredible amount of liquidity. Actually I consider it to be very close to outright negligence.” Well, yes you are getting close there Shaun. Max Keiser calls it macro fiscal fraud though, and I tend to agree with him.

    The whole issue is really to avoid having to face the fact that the only real way in which the economic problems may be solved in Western economies is to drastically and severely cut government spending. Talk about it is no good. So far for example despite all the talk about cuts in the UK no overall cut has actually been made in total government spending so far. Indeed since the present government has been in office it has actually increased significantly despite the talk! All that has been done is to increase taxation. That will have the opposite effect to what is required in my opinion, since it discourages real economic growth. The difficulty is that a government which actually makes a significant real cut in Public spending will consign itself to oblivion for several terms! So no democratic government dares to do it.

    Numbers have been published today indicating that the BoE has been injecting trillions of additional funding into the banking system to prop it up. This clearly is a covert operation and this large quantity of liquidity has not been included in the number for the total Public debt so far. It raises the possibility that the real level of present UK Public debt could be in the region of say £4 or 5 Trillion! No wonder they want yet more QE and no wonder gold is rising. To quote ex-president Regan “You ain’t seen anything
    yet !”

  5. waramess says:

    An excellent synopsis notayesman. It is impossible to say that further QE will have little or no effect. It is money thrown from helicopters in one direction or another, and at its source it has full value.

    The real issue is that these Keynesians have never recognised that a recession brings good with it and instead, they are willing to try to prop up a broken economy rather than let it fix itself. They honestly believe that pumping money into a deflated economy is the answer.

    Propping up ailing motor car companies works, for a short time anyway, and maybe propping it up two or three times will work but eventually inflation seeps through and eventually the motor company will fail anyway.

    In the UK the Bank of England are divided as to whether the future is an inflating economy or a deflating economy. They are split as to whether they should be controlling inflation or throwing more money at a deflated economy.

    The fact is they are looking at an inflationary depression and the more money they throw at it and the longer they keep ZIRP the worse they make it.

    And, just like mad men they will keep doing the same thing over and over again just to see whether this time the result will be different.

    My only question is, why are gold prices so low?

  6. Graeme B says:

    “So now we have it equities and government bonds and gold all rallying at the same time, so much for the power of diversifying your investments!”

    Which leaves only one asset class declining as far as I can see – cash. Assuming these QE operations are in fact reversed at some point, perhaps a very contrarian position to take is to hold cash. Perhaps central banks and governments will fail, and there will be a second deflationary bust after all.

    1. In terms of external purchasing power the worst type of cash currently to have is the US dollar. In terms of internal purchasing power I guess of the main nations inflationary trends look worst in the UK.

      Every governmental move at this time is predicated on driving people out of cash and there is no guarantee they will succeed.

  7. Burak says:


    As many of you may have read there was an important article in FT yesterday on these very topics written by George Soros:

    A few high-lights for me from this were:
    1* The immediate/main problem central banks should avoid is deflation
    2* For US, as long as Gov. borrowing rates are low it doesn’t make sense to be overzealous about austerity
    4* Monetary stimulus won’t work
    5* Large unemployment is a very bad thing for US economy&society, therefore fiscal stimulus is needed.

    I’d add to these, _long term_ unemployment is especially bad for the US.

    On the other hand, this post did convince me that my opinion is now central bank intervention of this kind (ie. QE) and at this scale that affects world markets is a very questionable and potentially morally hazardous practice, and should be avoided as much as possible. This I hold as long as it doesn’t contradict with (1) above.

    I also noted in this article Mr. Soros recommends a moderate rate of inflation. I think that may prove to be trickier in the US (T-bill carnage?) than in the UK.

    I fear isolationism will take hold in the US at some point and, some good sense and restraints will be needed, and I hope will be found.

  8. Mr.Kowalski says:

    Shawn.. when does the ECB lending facility to EU banks (supposedly) shut down ? Thankjs

    1. Hi Mr.K

      We may get some further insight today after their meeting but as we stand they are still running 3 month repos after stopping the 6 and 12 month ones which gets us to January 2011. However they are still lending a lot to the systems in Iberia,Greece and Ireland and as far as I can see there is no way out of this. There has been some recent perceived improvement in Spain but Ireland and Portugal are in trouble.

      The recent reductions in repo sizes may represent some sort of tightening but may also represent the end of all the arbitrage trading by the banks. So the exit here may be for easy bank profits.

      As an aside they appear to be exiting as everyone else is looking at expanding…… The strain is being taken in the exchange rate.

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