QE is not printing money.
While everyone keeps saying it is, it is not. Printing money creates inflation. As Mario Draghi asks, to paraphrase, “if QE creates inflation, where is this inflation? We have had QE for years, where is this inflation. Yes please we’d like some inflation.”
Printing money means just that, sticking valueless paper under a printing press and handing it out. Swapping a bond for cash is not the same.
Swapping bonds for cash is about the oldest financial transaction in the world. A bond is a piece of paper with an interest rate baked in, a dollar bill is a piece of paper that pays no interest. They are almost the same thing. That is the basis of QE, it tilts the balance between financial instruments to adjust the direction of an economy
Swapping one kind of money for another is not the same as printing new money and handing it out. QE v printing money is like the difference between a toffee hammer and a jack hammer.
So what is QE for?
Mostly QE is for funding governments who can’t balance their budgets. These days government spending is half GDP. Knock private sector GDP and a vicious circle kicks in and GDP collapses because tax is double counted in GDP and that comes out of the private sector. If you don’t finance the government deficit somehow the roof caves in.
QE gets that done. Government debt in private hands becomes a biggie bank for government.
QE works because it replaces lost money supply. The private sector creates money supply but in a crash this private sector money supply deflates leaving a shortage of money. All those once lovely assets turn to ash and the collateral and credit vanishes and with it money supply. It a vicious circle.
The private sector prints money. Through economic activity assets are created which are then securitized and/or used for collateral. This securitization feeds into the banking system and out pops more money. This money spins around making taxes and further economic activity.
Securitizing credit card debt, housing stock, student and car loans, ultimately prints money through a chain of securities that leads to the central bank. This money makes more cars, houses etc and more money is printed more tax is paid. When the credit system breaks as it did in 2008, this money supply goes to money heaven.
QE attempts to replace this money supply by propping up assets and by making all forms of assets easier to cash, away from the illiquidity of assets without a buyer. If the money merry-go-round can be spun back up, normal service will return. Sadly this doesn’t happen fast.
The route of QE is from the central bank into government then through spending, most likely deficit spending, into the private sector. There is no inflation because a gasping private sector takes this largesse and barely covers its basic needs. There is no surplus to bid up prices.
Money also flows into banks who rebuild their solvency with massive margins on their lending. Burnt by the crash, banks try to lend as safely as possible slowing the recovery. No one gets a lending break except citizens with houses and companies with great credit ratings.
So with QE, up goes the stock market and with it house prices. As QE props up big companies through cheap money and supports the confidence of property rich householders.
This is the story of the last years.
It is now Europe’s turn to take up the QE cudgels.
To make inflation you have to print money.
To do that, you do what the Weimar did in the 1920s. You don’t actually print money and hand it out Zimbabwe style, you do something different.
You say “Hey Mr Industrialist, you want to make jobs, how about you give me one of your bonds and I’ll give you cash for it.”
Mr Industrialist is of course very eager to give government his questionable bonds and go on a binge of business growth. The country gets an immediate economic boom from it but all that hot money is soon bidding up wages, resources, property etc and prices explode. Germany in the 20s didn’t care how many industrial bonds were turned into money, so inflation went off the dial. They had full employment, a weak currency, while elsewhere in Europe there was mass unemployment and grim depression. Who cares about having to keep printing extra zeros to bits of paper called money?
That is printing money. It doesn’t end well.
QE doesn’t do this, it doesn’t hand out money in exchange for valueless promises.
Or does it?
45 billion euro of the 60 billion euro is going straight into buying back government bonds, so no “money printing” there.
15 billion Euros is going into bonds issued by institutions, agencies and asset backed securities and covered bonds.
Hello that’s a bit more interesting.
So a quarter of this figure, 10 to 15 billion Euros a month can be squeezed in almost any direction felt necessary.
The lower the quality of the asset backing or the covered-ness of the bonds the more “printing” there can be. There is room for a Weimar Industrialist with intangibly backed assets to swap their junk for cash with European Central Banks.
As far as Europe is concerned we will be able to see how much printing will actually go on by the reaction of equity prices which are now bound to rise in any event.
However you can be sure the German’s will be hovering over the ECB as they pull that QE lever. As last to the party it would seem safe to imagine there is little appetite for US style economic aggression.
Yet once the euro has stopped falling fast, which shouldn’t be too long, European equities will be a one way bet, so while the ECB will not be printing money and creating hyperinflation, they will be setting off on a long journey of stoking asset prices and we can all jump on board that trillion euro train.