How afraid should investors be of the end of quantitative easing? Judging by recent comments, but also by the markets’ reaction until now, not too afraid.
As the major central banks are slowly retreating from their policy of asset purchases, we will probably witness some of the side effects of this withdrawal.
Warren Buffett famously said that “Only when the tide goes out do you discover who’s been swimming naked.” The tide is going out only slowly, but we are beginning to see, at least in the UK, the damage the ultra loose monetary policy has done.
Central banks are still worried about the danger of deflation, even though they have timidly started to lift interest rates. How else would they explain real negative rates almost everywhere in the developed economies?
As if we didn’t know already, last week we got another reminder of the economic disaster that Brexit is shaping up to be: Retail sales weakened in the UK, as price rises eat into consumers’ purchasing power.
The Bank of England will publish its inflation report next Thursday, and this time it will get even more attention than usual.
Brexit is being felt in prices more and more now, with the cost of grocery bills jumping and prices for essentials going up. The phenomenon of “shrinkflation” is in full swing as well; many products are mysteriously losing weight, but maintain their price.
No matter how much it would like to help (or to meet its inflation target), the Bank of England cannot do anything to prevent prices from rising. In fact, to be more accurate, it could, but it will not. The central bank could raise interest rates, stopping the pound’s depreciation — but if it does this, the housing market would crash.
Among the analysts and politicians criticising the single European currency, perhaps the most numerous (and vocal) come from Britain.
This should be no surprise: the UK itself is a currency union, and those working within it should know a thing or two about why such a regime does not really work.
After the vote by the British people to leave the European Union, we keep waiting for the adults to take control of the situation. If they did, this whole process would be much easier. They could sit down and discuss ways to proceed with the separation with minimum damage for both sides.
“Happiness is a candle. In fact, don’t laugh too loud, you risk putting it out.”
— Christophe Maé – Il est où le bonheur
“Brexit Armageddon simply hasn’t happened,” writes with delight the Guardian’s economics editor, Larry Elliot.
“The 1.4% jump in retail sales in July showed that consumers have not stopped spending, and seem to be more influenced by the weather than they are by fear of the consequences of what happened on 23 June. Retailers are licking their lips in anticipation of an Olympics feelgood factor.
The financial markets are serene. Share prices are close to a record high, and fears that companies would find it difficult and expensive to borrow have proved wide of the mark. Far from dumping UK government gilts, pension funds and insurance companies have been keen to hold on to them,” writes Elliot.
Perhaps this optimism is partly justified. After all, confidence goes a long way in financial markets, as any observer of emerging markets can testify. As long as you can project confidence, the battle is, if not won, at least not entirely lost. In most cases, anyway.
The Bank of England’s decision to borrow Mario Draghi’s bazooka has had immediate consequences: investors rushed into bonds like they’re the best investment out there. And what else could they have done? Ever since the financial crisis, central banks have dictated where investors should put their money, picking winners and losers in the markets with their asset purchases.
Well, it’s no use crying now. What’s done is done – the UK has voted to leave the European Union, so there’s no point hanging around.
There’s nothing like old proverbs to help explain the reasons for this monumental failure, so here are three of them:
Proverb 1: He who conceals his transgressions will not prosper
David Cameron fell on his sword and had to resign. I bet he couldn’t believe it. After all, his cunning plan was going so well: immigrants and the EU were getting all the blame for what was wrong with the economy, while he and his government were getting away with mismanagement.
Among the most glaring economic mistakes: encouraging the distribution of wealth to the already wealthy by banking on house price increases to prop up the economy, encouraging the central bank to keep interest rates artificially low thus robbing savers of even meager returns, and keeping up a system of subsidies and benefits that ultimately helps the rich (salary subsidies ultimately help employers, housing benefits help landlords).
The UK economy has been propped up by these subsidies and by central bank stimulus, instead of reforms to encourage investment, the construction sector or upgrading of infrastructure. This is not sustainable in the long run.
However, for most people, this is too complicated to even follow, let alone understand; so they blamed the sluggish recovery on immigrants stealing jobs and/or living on benefits.
Proverb 2: If you sow the wind, you will harvest the whirlwind
This old proverb is incredibly appropriate at this time. In February this year, when the date of the referendum was announced, I wrote that Brexit is a huge PR exercise that endangers the UK. The issues that people care about are not the ones they voted about.
People are unhappy because inequality is rising, because they become poorer and because public services are deteriorating. They are unhappy because they are priced out of a housing market where foreign investors are encouraged to buy properties and keep them empty, all in the name of contributing to an enormous housing bubble.
Nothing was done to resolve these issues, on the contrary. The recipe for recovery and prosperity remained the same: blow up the housing bubble with various subsidies such as “Help to Buy” programs that boost demand, and hope that people will borrow against their homes to consume more. It worked for a while, but has created huge resentment.
This resentment was channeled by the tabloids and by the extremist UKIP party, led by Nigel Farage, against immigrants and specifically against those from Eastern Europe. David Cameron saw how Gordon Brown was crucified when he called Gillian Duffy a “bigot”, and did not say a word to try to slow down the rising wave of hatred against foreigners.
His calculation was that immigrants don’t vote and therefore he has nothing to lose by not defending them against pointless attacks. As things turned out, he couldn’t have been more wrong.
Proverb 3: A friend in need is a friend indeed
Britain had, for a long time, a lot of friends abroad. British culture is admired the world over, tourists flock to visit London every year. It could count on the support of European countries within the EU when big decisions needed to be taken about standards for goods and services.
This form of cooperation has helped the British economy enormously, but because it was carried out in the informal, understated way in which friendship and trust work, it has not received the recognition it deserved.
Increasingly, however, the UK became more and more detached from its EU allies, often kicking them when they were down rather than contributing with ideas to help them recover. During the eurozone debt crisis, strident criticism and lecturing often were the norm when British politicians talked about the EU and the eurozone.
Now the tables have turned, and the UK finds itself isolated. Last Friday, David Cameron went back on a promise he made to the British people in February, in parliament, when he said Article 50 should be triggered soon after the result of the referendum if the people vote to leave.
On Friday, Cameron said it would be up to his successor — to be selected by the Conservative party between now and its annual meeting in October — to trigger the official departure of the UK from the EU. But EU officials, including the European Commission President Jean-Claude Juncker, insist that the UK hurry up, as the EU needs to focus on its own issues now.
There are lessons to be drawn from this, of course, not in the least about the role of the media – a lot of people in the UK were influenced by vitriolic hyperbole in the tabloids portraying Eastern Europeans as benefit scroungers or criminals – or about the role of opposition parties – Labour’s Jeremy Corbyn was all but invisible during the campaign and before.
Interestingly, a petition requesting a second referendum had gathered more than 1.6 million signatures by Saturday afternoon, and another one, requesting that London break off from the UK and remain in the EU, had almost 150,000.
The limit for parliament to debate a petition is 100,000 signatures, so it looks like MPs will have fun with these two. But there’s precious little that can be done now to reverse course – nor should there be. At the end of the day, Brexit is the will of the people. Perhaps the best proverb to sum it up is: “be careful what you wish for”.