7 Years Later The "Very Serious People" Finally Ask: Was QE Worth It?

By now, the QE narrative is abundantly clear and it’s no longer just the “permabears,” conspiracy theorists, and “fringe” bloggers who understand it. At a broad level, there’s evidence to suggest that large scale asset purchases are only marginally effective at driving demand and relieving disinflationary pressures (the fact that the latter is an explicit goal of monetary authorities rests on the a priori assumption that lower prices are everywhere and always a bad thing) and to the extent that they achieve those goals at all, the effect dissipates with each successive round of monetary madness. In the mean time, the effect on the middle class, savers, and financial market stability is catastrophic and unlike the purported benefits of QE, the negative effects grow (in some cases exponentially) with each iteration. 

The end result is an entire class of savers devastated by negative real returns (even as the government is able to sustain what would otherwise be an unsustainable debt burden), a widening of the gap between the wealthy and everyone else (by virtue of the fact that the wealthy hold a larger percentage of the types of financial assets which benefit from QE), and perhaps most importantly, the inflation of asset bubbles and the fostering of market instability via manipulation and distortion. 

Why is the latter the most important point (that is, negative real rates for savers and the destruction of the middle class would seem to take precedence over distortions in financial markets which are the playground of the rich)? Because as we’ve seen time and again, profits are privatized but losses are socialized, and so when the market distortions created by the policies that have, since the crisis, served to restore the fortunes of the rich finally coalesce in an even more spectacular collapse, you can count on two things: 1) the hit to the middle class will be far more devastating than the pain suffered by the wealthy (i.e. losing 50% of a modest 401K hurts a lot worse than losing 50% of a massive fortune), and 2) it will be taxpayers (i.e. main street) that pay to repair a system broken by the same policies that worked to relegate them to second class citizenship. Put simply: when the new bubbles burst, it will add insult to injury for those who suffer most under financial repression.

With this in mind, we present the following excerpts from a new Swiss Re report:

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“Financial Repression: The Unintended Consequences”

Unconventional monetary policies help to finance the public sector’s debt burden. While a number of these policies were crucial and beneficial to managing the financial crisis, they also come with significant costs. The unintended consequences include potential asset price bubbles, an impaired credit intermediation channel and increasing economic inequality…

Today’s low interest rate environment is not only driven by macroeconomic factors, but foremost by policy actions that help governments deal with the high sovereign debt burden. Regulatory rules that support financial repression by favouring sovereign bonds have also been put in place. 

The impact of financial repression on markets, so far, is undisputable: Continued increases in bond prices, expensive stocks and relatively low volatility – a situation which is hardly sustainable. 

Moreover, the policy actions that cause financial repression entail a number of unintended consequences. These include potential asset price bubbles, convergence in asset allocation strategies of otherwise heterogeneous financial market participants and an increase in economic inequality. With regards to the latter, the impact of foregone interest income for households and long-term investors is substantial. At the same time, the equity rally has predominantly benefited society’s wealthiest. Furthermore, central bank independence and credibility is increasingly questioned…

The costs of financial repression are significant. Let’s take the US as an example. Had the Federal Reserve followed a policy based on the Taylor rule, the interest rate target would have been roughly 1.7 percentage points higher on average than it was in the period 2008–2013. When also taking into account longer-term rates (and their extent of being below their “fair equilibrium value”) and the lower debtr elated expenditures for households, the net tax on US savers amounts to USD 470 billion of foregone interest rates over that period. Simultaneously, wealthier savers benefited from the equity rally, bringing along new issues related to economic inequality. 


Why do central banks engage in unorthodox monetary policies? Key objectives include bringing inflation back to target, stabilising financial markets and fostering economic growth. While the jury is still out on their success and ability to achieve those goals, one effect is clear: Low interest rates help governments to fund their debt. In other words, they are able to channel funds to themselves – referred to as financial repression. This type of policymaking comes at a cost. 

So far, central bankers have argued that the benefits of quantitative easing and other unorthodox measures outweigh the costs. However, exiting ultra-easy monetary policy will become harder with time and the unintended consequences will become more apparent. These include potential asset bubbles, a financial repression “tax”, increasing economic inequality, the potential of higher inflation and reputation damage for central banks...

The significant price appreciation across asset classes post-2009 suggests the risk of a market-wide asset price bubble. Forward equity price to earnings (P/E) ratios have moved above their long-term average, while cyclically-adjusted Shiller P/E ratios are back at pre-crisis levels. The same is true for investment grade corporate credit and securitised product spreads. Some asset class segments look particularly overvalued. These include collateralised loan obligations (CLOs), high-yield corporate credit and leveraged loans. Housing markets are vulnerable to easy money and asset bubbles. Markets in London, China and in some Scandinavian countries are most at risk of a significant correction. The longer the current monetary policy stance is maintained, the longer those risks will continue to build up. 

Clearly, financial market excess (FME) has been building up due to increased risk appetite and low market volatility. The Swiss Re FME index is now close to pre-crisis average levels..

Households are being ‘taxed’ as they do not earn interest on their deposits that they otherwise would. In case of negative real interest rates, they even experience a devaluation of their savings in real terms. Had the Fed followed a simple Taylor rule, the policy target rate would have been roughly 1.7 percentage points higher on average in the period 2008–2013…

Since the financial crisis, the total cumulative net “tax” on all US households amounts to roughly USD 470 billion. This represents an average “tax” of 0.2% per annum on total financial wealth (including interest-bearing assets and equities), or 0.4% of total interest-bearing assets…

Meanwhile, the wealthier savers have benefited more from the equity rally with the top 1% having 50% of their financial assets invested in equities (while the bottom 90% only allocates 9% on average). Assuming that, on average, US savers have profited from a 100% appreciation of their equity portfolio during the 2009–2013 period (and ignoring the losses from pre-crisis legacy holdings), this results in a gain of USD 3.7 million for the top 1% of households and USD 7300 for the bottom 90%. As a percentage of total financial wealth, the top 1% has thus recorded a 50% gain while the bottom 90% only registered a 12% profit. This suggests that monetary policy and central bank asset purchases have aggravated economic inequality via equity price inflation…


(ZH: Oh, and about that “wealth effect” thing…)

Whether the increase in wealth has led to the so-called “wealth effect” (ie impact on actual consumption) is questionable (Figure 12). Unlike interest income on deposits, equity and real estate value appreciation are not realisable cash gains immediately available for consumption. Also, property prices have not yet fully recovered their loss from the 2008–2009 period. Households are thus still worse off compared to pre-crisis. Moreover, outstanding mortgage debt has continued to decline even after the trough in home prices. This indicates that the gain in households’ real estate portfolio values was at least partially offset by reducing the value of mortgage debt.

Overall, there is no clear evidence of equity-related gains having translated into additional consumption and thus no real economic growth. A similar picture holds for the “wealth effect” related to housing. As a result, the increase in financial and housing wealth has – at best – only marginally benefited the real economy. Indeed, households’ foregone interest income (the “tax”) was certainly not positive for spending. Meanwhile, the equity and property value gains had a significant impact on wealth inequality, as the richest households have profited significantly in absolute terms. The “wealth effect” is also questionable given population aging and the life-cycle hypothesis. At lower interest rates, more aggregate savings are required for an aging population to maintain their consumption level post-retirement.

Full report is here

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So, to the central banks of the world, go ahead and tell us how all of this is just further evidence of the need for more easing.