25 September 2017
Based on my letter published in the Financial Times 22 September.
Recent political events demonstrate disaffection with conventional politics. The votes for Brexit, Trump, Macron and far-right nationalists in Germany and other EU countries have been a shock to the established order. Questions are asked as to whether the sudden surge in populism represents a loss of confidence in capitalism, economic policy and democracy.
Unconventional monetary policies may have played a role in the rise of populism and voters’ desire for change. So far, such possible impacts seem to have been overlooked. Yes, it is possible that the side effects of Quantitative Easing (QE), especially after so long, may be feeding popular disaffection with the entire capitalist system.
Capitalism depends on free flows of capital and market forces, to allocate resources and determine outcomes. The stance of global monetary policy has, arguably, undermined capitalism as central banks have artificially distorted capital markets, the basis on which the system depends.
Following the 2008 financial crisis, central banks introduced QE as a supposedly temporary emergency experiment. Having pushed short-term interest rates down to almost zero, they wanted further stimulus to revive growth. So they decided it might help if they could lower long-term interest rates too. They, therefore, created huge amounts of new money to buy sovereign debt (and other bonds), which pushed up bond prices thus lowering yields.
However, Government bonds are considered ‘risk-free’. As the lowest risk assets, other capital markets – and models of capital market pricing – use this benchmark. Unfortunately, however, QE has distorted this ‘risk-free’ rate, undermining its valuation. With a buyer determined to boost the price of these assets, it is no longer a free market. And when bond yields fall sharply, investors need to find other sources of return, which pushes up all other asset prices.
And the policy has been prolonged well beyond the economic emergency. Global central banks have artificially distorted capital markets for several years, by continually creating more money to buy more and more bonds. This has been very beneficial for powerful interest groups, but has also disadvantaged others.
QE helps Governments borrow more cheaply, thus lowering their fiscal deficits and allowing higher public expenditure. Financial market participants and the wealthiest groups in society benefit from the overall increase in asset prices that QE engenders. But the social, distributional – and political – side-effects of unconventional monetary policies are overlooked.
However, the side-effects of unconventional monetary policies may have fed populism and ultimately undermined confidence in democracy.
QE artificially boosts asset prices but assets are unevenly distributed. 80% of all assets are owned by the over-45s, , the wealthiest and older households become even wealthier, while QE-induced house price inflation and rent increases have further disadvantaged non-homeowners and the young. Such social, distributional – and political – side-effects of unconventional monetary policies are routinely overlooked.
If politicians announced tax changes to enrich the wealthiest groups and redistribute away from young to old there would be a voter backlash. But disguising such fiscal measures as monetary policy has achieved similar impacts without democratic accountability.
Is the populist wave engulfing the West reflecting this? The powerful groups who benefit most from QE – governments, financial market participants and the wealthiest – have so far held sway, but it is important to consider the democratic dangers to capitalism which prolonged QE may pose.