On government (mis)intervention

So we’re in week 2 of the European Central Bank’s (ECB) quantitative easing.  Among the effects:

  • Bond bubble: some commentators have spoken phrases such as ‘bubbles are only obvious in hindsight’.  Well, despite articles justifying the purchase of negative medium-term bond yields, I hope it’s obvious to most that these 10-year bond yields are unsustainable:
  • Let's lock in 1% for 10 years, shall we?  Source: Bloomberg

    Let’s lock in 1% for 10 years, shall we? Source: Bloomberg

    Anybody notice in the above that countries such as Italy, Spain and France can borrow for 50% or less of the US Treasury?  Does that make sense to anyone?

  • Stocks flying: the S&P 500 is more or less even in 2015, despite tepid company results.  European stock indices are flying: the German Dax is up 23% YTD, for example.  While Germany is growing, that’s a big flier. (Side note: I’m happy I did that little bit of rebalancing a couple months ago).
  • UK house bubble keeps going: as written before, this market defies logic.  The UK government’s policy towards soaring house prices has been…um…subsidised mortgage financing.  It’s a sad joke.
  • US Dollar is king: as the Fed is turning the corner to raising interest rates, while Europe and the rest of the world are still cutting/QE’ing, the US Dollar index is up about 10% this year.  As mentioned before, if you’re American and thinking of international travel, or even moving offshore: go now.


Main street?  All the above is great news for investors (though not necessarily savers).  But I’m not convinced this QE helps these economies get back to business.

The direct intervention in financial markets means stock and bond capital gains are much greater (and more predictable) than business investment.  If you’re an entrepreneur, funding can be tight from the banks; why would they lend, when the government bonds they hold spare are making a better return on equity?  If you’re a corporate director, why borrow at low rates to build new plants or try new projects when the return on buying back shares is so good?

In sum: QE had a great initial function, in my opinion.  It loosened credit for big businesses; it jumpstarted merger activity; it finally anchored inflation expectations to essentially zero.  In my opinion, the usefulness of QE has been exhausted for the most part: as central bankers have mentioned around the world (and I’ve written about), it’s time for serious fiscal policy to kick in.  Let’s see some new roads, bridges, broadband, etc.

Mo’ money, mo’ problems: too much capital

Too many with too much spare: 10 year government bond yields as of 31 Jan 2015.  Source: Pension Partners via Twitter.

Too many with too much spare: 10 year government bond yields as of 31 Jan 2015. Source: Pension Partners via Twitter.

I’m confused, and a bit frustrated.  In bullet points:

  • We’re barely recovering from recession, right? I mean, the press are going nuts over slow but steady progress in the US, and worse news for Europe, Japan, and the rest of the world.
  • Keynes says buy and build.  Perhaps my economic view is coloured by my alma mater’s famous mathematician-turned-bursar-turned-economist, but a sure-fire method to help along a country in recession is for the government to start spending like a rap star.  Hire folks to do anything, but maybe something relatively useful in the long-term like repair infrastructure.  The ASCE helpfully puts a $3.6 trillion price tag on getting the US infrastructure up to scratch by 2020… that’s about 20% of US GDP.
  • Record low interest rates = BORROW NOW.  Look, I hate the national debt as much as anyone – it does indeed steal from later generations to pay for things today.  But particularly in the case of infrastructure, you’re already screwing later generations through depreciation (with crumbling roads and such, it’s literal depreciation, rather than a book entry).  So today’s record low interest rates (see chart above – the same message goes for the US as many other governments), the message is clear: BORROW.
  • Why are rates so low?  Too much capital lying around.  Though it seems to disagree with the first point, there seems to be a huge surplus of investable capital around.  It’s like investors have become so risk-averse, or have such a lack of ideas, that they’d rather lock up cash for 10 years, being paid nothing (or less than nothing, in real terms) than try for ‘risky’ propositions.  The triumph of return of capital over return on capital continues to reek.
  • Investors: you are committing self-harm buying bonds at these rates.  Yes, bonds have made amazing returns for decades.  Rates could still go lower – indeed, now that the zero-bound has been shattered by the likes of Switzerland (see above), they could in theory go wherever.  But remember why you are saving/investing in the first place: to generate a return on your savings.  Otherwise you might as well store your currency behind a tile.  Stop being fearful.

In sum: these low yields are a joke.  It is implicit transfer from savers to borrowers.  But instead of just being mad at the situation, I encourage the governments of the world to take advantage of savers/investors with a surplus of capital and fear, and a dearth of decent ideas.  Borrow loads at these low rates, and use the proceeds to bring forward decades of investment.

End soapbox.