VOL. 127 | NO. 45 | Tuesday, March 6, 2012
The Worldly Investor
Rates Down, Money Up Across Globe
By David Waddell
Money Money Money Money To address declines in economic activity and stimulate marketplace liquidity, central banks across the globe have taken rates down and the quantity of money up. In fact, the leading global central bank balance sheets are approaching an unprecedented $9 trillion, or nearly 15 percent of global GDP.
The European Central Bank has doubled its balance sheet size, while the U.S. and England have tripled theirs. Overnight lending rates correspond, with the ECB at 1 percent, the BOE at .5 and the U.S. at .25. While the value and methodology of this global stimulus might be controversial, the positive influence on stock markets cannot be denied. Six months after announcing three quantitative easing programs in the U.S. and Europe, markets were 10-15 percent higher. Studies of post-crisis monetary easing and equity market returns reveal that the correlations exceed 80 percent. Easy money equates to easy returns, but what about the inverse? A newly created Global Monetary Policy Index reveals that global central bank policies in aggregate tightened meaningfully from January 2011 through August 2011, reversed course, and have fallen through February 2012. Coincidentally, global stock markets floundered into August 2011 and have since found footing into 2012. The market provided further evidence of its co-dependence earlier last week as Bernanke’s QE3 back-peddling resulted in sharp intraday pullback. It appears global equities and global monetary policies blend like chocolate and peanut butter. With central banks on easy, equities taste yummy.
The Inflation Situation What would cause central banks to tighten? Inflation. With the European banking system pacified for now, traditional cyclical worries may return. Traditional economic cycles end when inflation rates either cripple economies or inspire central banks to over-tighten lending rates in response. Many assert that the mere presence of money printing creates inflation. In fact, based upon the hyper degree of money printing, perhaps we should be seeing hyperinflation. That is the rally cry for numerous gold bugs.
However, equally important to the quantity of money is the speed with which it circulates. Over the last year in the U.S., the stock of money has grown 10 percent, but the velocity of money has fallen 5. Another velocity meter, the money multiplier, has fallen 6 percent over the period. Large bank reserves and tepid lending worldwide indicate that money may be abundant, but record low velocity indicates limited access and demand. Inflation rates worldwide remain below long run averages. Even with the recent spike in oil prices, the more comprehensive Dow Jones Commodity Index stands 12 percent lower than a year ago. Easy central bankers may create money, but easy neighborhood bankers distribute it. With the velocity indicators idling, inactive neighborhood banks are offsetting active central banks.
Vigilance Vital The equity markets like easy central banks. Eventually, easy neighborhood banks will stoke inflation, which they will not like. Yet, with velocity low and commodity price pressures constrained, the endgame inflation scenario appears distant … for now.
David Waddell, who is regularly featured in the Wall Street Journal, USA Today and Forbes, as well as on Fox Business News and CNBC, is president and CEO of Memphis-based Waddell & Associates.