Bill Gross: QE is Global Financial Methadone



POSTED BY Ed (9 mths ago)
Back in November, when describing the perverse global fund flows in which record money creation out of the BOJ and ECB amounting to roughly $200 billion per month was being used indirectly, via spread differentials, to create demand for US Treasuries by foreign official and private investors - an observation first made by Deutsche Bank - we dubbed it "global helicopter money", and were surprised that "nobody has noticed" what is going on. Three months Bill Gross has made this phenomenon the topic of his latest letter titled "happiness runs" in which he writes that central banks remain stuck in a "QE-forever cycle", and explains that "a client asked me recently when the Fed or other central banks would ever be able to sell their assets back into the market. My answer was "NEVER". A $12 trillion global central bank balance sheet is PERMANENT - and growing at over $1 trillion a year, thanks to the ECB and the BOJ."

He then observes something we have pounded the table on repeatedly in recent years, namely that without the Trasury backstop bid from central banks, there would be a sharp sell off in rates, which would eventually catalyze a sharp contraction in financial conditions, leading to a recession, to wit:

A 2.45%, 10-year U.S.Treasury rests at 2.45% because the ECB and BOJ are buying $150 billion a month of their own bonds and much of that money then flows from 10 basis points JGB's and 45 basis point Bunds into 2.45% U.S. Treasuries. Without that financial methadone, both bond and stock markets worldwide would sink and produce a tantrum of significant proportions. I would venture a guess that without QE from the ECB and BOJ that 10-year U.S. Treasuries would rather quickly rise to 3.5% and the U.S. economy would sink into recession.
He calls this "global helicopter money" circular scheme "financial methadone", and writes that "the interest earned on the $12 trillion is already being flushed from central banks back to government fiscal authorities. One hand is paying the other. But the transfer in essence means that monetary and fiscal policies have joined hands and that the government, not the private sector, is financing its own spending."

This fusion of monetary and fiscal policy is the very definition of "helicopter money", however because it takes place at the global, and not national level, few are outraged.

Needless to say, in the long-run such an arrangement is unsustainable: "individual savers, pension funds, and insurance companies are now robbed of the ability to earn rates of return necessary to maintain long-term solvency. Financial Armageddon is postponed as consumption is brought forward and savings suppressed and deferred."

Gross' conclusion is that "for now, investors must go with, indeed embrace this financial methadone QE fix. Quantitative easing will continue even though the dose may be reduced in future years. But while a methadone habit is far better than a heroin fix, it has created and will continue to create an unhealthy capitalistic equilibrium that one day must be reckoned with."

Amusingly, despite the recent back and forth between Gross and Gundlach about bond "resistance levels", Gross is sticking with his bogey of 2.60% on the 10Y and said that "yields will likely gradually rise (watch 2.60% on the 10-year Treasury), yet they will stay artificially low due to the kindness of foreign central bank quantitative easing policies. But that is not a good thing. Happiness runs...Happiness runs, and so one day, will asset markets, artificially supported by quantitative easing."

The one thing we can add here is that while bond yields on the long-end may indeed spike, once the market appreciates the latest tightening "policy error", and prices in the latest deflationary outcome, long end yield will once again tumble, only this time the short-end will continue to rise on expectations of rising central bank rates, ultimately leading to the dreaded curve inversion, which will catalyze the outcome Gross fears: an economic recession.



Ed (8 mths ago)
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Ed (8 mths ago)
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Drum roll.....

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