Authored by Yves Bonzon, CIO Pictet;
The US and European central banks are widely perceived as committed to a path of frantic monetisation in order to avert the risk of deflation. However, the unlimited QE (quantitative easing) of the US and its European cousin OMT (‘outright monetary transactions’ – of peripheral sovereign debt) differ significantly in terms of the likely monetary consequences on the two continents.
In the United States, the basis of the Federal Reserve’s actions has just switched around. The central bank is no longer reacting to developing tensions in the capital markets, but is giving priority to an improvement in the labour market. To achieve this aim, the Fed envisages unlimited expansion of its balance sheet through securitised mortgage purchases. In doing so, it hopes to give a decisive boost to financing conditions and to prices of tangible and intangible assets. The approach is not without risk. First, no one knows how long the central bank should influence asset prices and thus risk creating new imbalances in the allocation of capital in the US economy.
At the same time, one may wonder how much unemployment is not structural, with low-skilled labour insufficiently productive to be used profitably in a developed economy in the full flux of post-industrial revolution. Faced with these uncertainties, gold seems the most likely winner from this unconventional new monetary experiment. Exceptionally, we have decided to increase our exposure to gold through mining companies.
In Europe, the ECB OMT programme certainly addresses the immediate risk of a disorderly break-up of the single currency should the southern countries fail to refinance their debt at market rates. Perversely, this lifeline for the governments concerned also allows them to postpone the necessary public-sector restructuring. Europe is therefore committed more than ever before on the road to latent deflation. Conditions look more and more like Japan, where the authorities have failed to reflate their economy decisively for over 15 years.
A new monetary era has began in the West. Its consequences will probably be very different in the United States and Europe. However, one way or the other, investors now operate under a regime of central bank asset price targeting. Everything we know about investors’ traditional reflexes and all historical points of reference are potentially invalid.