A global warning shouted from the helicopters
The world's big central banks have again indicated they will go to extremes to get economies moving again. This massive simultaneous stimulus puts yesterday's Australian inflation data in context.
The Federal Reserve is still concerned about the economic outlook in the US and this was confirmed with the maintenance of incredibly stimulatory monetary policy.
There were no surprises in the Fed’s Statement, with the policy making Federal Open Markets Committee reiterating its intention to keep easy policy in place until the labour market improves. This shows up in its restated intention to keep interest rates at an "exceptionally low level” (in other words near zero) through to the middle of 2015, it will continue "Operation Twist” which is aimed to keep long-dated government bond yields low until the end of the year and it reiterated its plan to buy around $40 billion of mortgage backed securities per month. Monetary policy has never before been so stimulatory.
Given the absence of fresh news from the Fed, markets were very little changed. It is now almost four years since the Fed cut interest rates to near zero and the absence of a meaningful economic recovery with that sort of monetary stimulus highlights just how deep the banking, housing and general economic problems still are.
In Berlin, the ECB President Mario Draghi appeared before the German Parliament to face questions on the consequences from the bond buying program it announced a little over a month ago.
Despite the deep recession in Europe and actual economic depression in some member countries, the Germans wanted to question Draghi over the inflation risks of the ECB’s version of quantitative easing.
Draghi allayed the fears of higher inflation with some simple analysis in which he concluded that rather than inflation being a risk, the recessionary conditions in Europe were more likely to lead to deflation. Draghi said very plainly in a statement after his parliamentary appearance, and a point backed up by the eurozone having 11.5 per cent unemployment and weakening leading indicators, that "in our assessment, the greater risk to price stability is currently falling prices in some euro-area countries … In this sense [the planned bond buying progam] are not in contradiction to our mandate: in fact, they are essential for ensuring we can continue to achieve it.”
Draghi appears to have allayed some of the Germans' concern. Chancellor Angela Merkel’s budget spokesperson acknowledged that Draghi’s "uppermost focus is the maintenance of price stability”.
In addition to inflation, the Germans are also worried that the ECB bond buying program risks compromising the finances of members of the ECB given, by definition, the favourable financial treatments being directed to the weakest members. Draghi again quashed these concerns reiterating the point that "The ECB intervenes only in countries where the economy and public finances are on a sustainable path”. In other words, the bond buying program comes with strings attached.
The economic woes in the UK continue to unfold and so fragile is the UK economy that Bank of England Governor Mervyn King indicated overnight that a fresh tranche of QE was likely in the near term. The BoE has already cut interest rates to 0.5 per cent and delivered £375 billion of QE. King said that the BoE was "ready to inject more money into the economy” as a result of the ongoing recessionary conditions.
He went further saying the "damaged banking system means that today banks aren’t creating enough money. We have to do it for them.”
So there we have it. In the last 24 hours, the Fed, the ECB and BoE who together account for around 42 per cent of global GDP have told the markets that the banks, economic conditions and inflation risks are so ugly that not only will interest rates be kept near zero, but that they will be printing many billions of dollars, euros and pounds to try to get an economic recovery locked in.
Throw in Japan and Canada (to a slightly lesser extent) and you have half of the world’s economy with economic problems so bad that the central banks are all but flying around in helicopters throwing cash onto the streets.
This is a big part of the global background for the RBA as it considers monetary policy settings in less than two weeks.
The fact that the inflation data exceeded the forecasts of some in the market says more about the forecasting prowess of the market than the fact that annual inflation is 2.0 per cent, with the underlying measure at 2.5 per cent. These inflation rates include the hit from the carbon tax which is probably around 0.5 percentage points on the headline measure and 0.2 percentage points on the underlying rate. Inflation is low.
The RBA’s counterparts around the world are very scared about the outlook for their economies. Their policy actions say that. It would be glib, no an error, if the RBA did not take account of the risks to Australia from more than half the world being in recession when it considers interest rates next month. That is why a further interest rate cut is close to certain.