The chorus of those calling for a change in central bank policies around the globe continues to grow.
Paul Colgan and I discuss the topic with David Bassanese in Business Insider’s weekly podcast, Devils and Details. You can listen to that here:
Now Westpac’s chief economist, Bill Evans, has added his voice to calls for an overhaul of central bank policy in a new note to clients.
Evans says that “central banks figured that embracing quantitative easing would drive down interest rates and release bank liquidity which would incentivise investment and narrow the savings investment gap”.
But “that highlighted a key misunderstanding of the reasons why investment remains weak around the world”.
Rather, he says, disruption and technological change and the fear it drives of redundant investment, together with too high investor expectations of returns, the absence of government policies to support future growth, and a capacity overhang in emerging markets are all combining to “threaten investment in the developed economies”.
Evans says negative interest rates and quantitative easing has knocked savings and investment out of balance around the globe and distorted interest rates.
He says that “an ill-conceived QE policy in Europe, Japan and now UK is largely responsible for US rates being so low the US 10 year rate cannot really be viewed as a reliable indicator of the global risk free rate.”
The result is that the pricing of other assets across the globe are also mis-priced.
Evans says “central banks should withdraw from QE thus lowering pressure on excess savings” which have been “exacerbating the imbalance”.
“Global ‘tapering’ needs to be the national catch cry. These policies are also creating headwinds for the US FED which would have been further into its normalisation process had QE not been adopted in Europe and Japan,” Evans says.
Rates need to rise because “record low interest rates have not been effective in stimulating investment to close the savings/investment imbalance” for the reasons Evans cited.
Equally though he says “a change in policy from governments on infrastructure and structural reform is urgently required”.
But while the global economy needs a normalisation of rates Evans notes the transition is not going to be an easy one for markets.
When these QE policies are finally abandoned, as they surely must be, there will be a huge repricing of risk free assets with rates heading in the direction of nominal GDP growth, although the pace of this adjustment will still depend on the other progress which governments have made in closing the savings/ investment imbalance.
In those circumstances other asset markets, including equity markets, will have to reprice given a higher risk free rate.
In other words, when rates rise, stocks will fall.