Wikinvest Wire

To zero and beyond!

Thursday, March 05, 2009

Another combined one hundred basis points were lopped off of short-term lending rates in Europe this morning as shown in the graphic below from Reuters.

Once again, savers are being punished (though nearly everyone thinks the West should save more) and another page is turned in the story of how the worst financial crisis since the Great Depression, caused by too much easy money, is being rectified with even more easy money.

The British central bank went so far as to announce that the British government had authorized the printing department to whip up another £150 billion for the cause.

Regardless of how this all works out, the historians are going to have a field day when looking at charts like the one above.

They'll look at it and say, "Why, I've never seen anything quite like that"

The ECB (European Central Bank) cut its key interest rate from 2.0 percent to 1.5 percent, the lowest since the euro was launched more than ten years ago, and ECB president Jean-Claude Trichet slashed forecasts for economic growth in the eurozone to somewhere between minus 2.2 percent and minus 3.2 percent.

There were no new measures announced to spur an economic recovery.

In contrast, the BOE (Bank of England) cut short term lending rates to a new multi-century low, from 1.0 percent to 0.5 percent, down from a rate of 5.75 percent just 18 months ago. The bank also promised to print up £75 billion to pump into the financial system, vowing to create another £75 billion in the months ahead if the first
£75 billion doesn't do the trick.

The Telegraph reports on these new measures being implemented to rescue the economy.

The Bank, which has cut the cost of money dramatically since the collapse of Lehman Brothers in September intensified the financial crisis, is now moving beyond making money cheaper. By adding new money to the economy at a time when interest rates are hovering above zero, Mr King will be hoping that money is lent and helps ease the credit drought suffered by consumers and businesses alike.

“Savers lose out again as the Bank of England opts to cut rates and inject more adrenaline into the ailing economy," said Stuart Porteous, Head of RBS Group Economics. "The Bank takes UK policy into uncharted territory - printing money."

The Bank will target purchases of government debt, or gilts, because they are among the most liquid assets around and owned by a range of investors including banks and institutional investors. The hope will be that the money received for the gilts will be lent out, invested in other assets and driven around an economy starved of credit.
This handy video was supplied to explain what exactly quantitative easing is, how it works, and how the world may or may not be better off as a result.

In this report also at the Telegraph, Edmund Conway provides a few more details.
Why do this? Because money growth is directly tied to both inflation and GDP growth, and it has hit the buffers recently. By increasing the amount of cash in the system the Bank intends to raise one or both of these two.

Will it work? That is the big unanswerable question - though these measures give the Bank a good chance of averting the deflation trap the US suffered in the 1930s. The objective, as I've said, is to increase the amount of cash both in peoples' and companies' bank accounts and pockets. However, since it has stopped short of a literal helicopter drop of cash onto families' homes, the Bank is doing this slightly indirectly. It buys assets from the private sector by creating money (with the press of a button rather than a printing press - this stuff will be done electronically); this in turn increases the amount of cash in banks' reserves.

According to Simon Ward of New Star, whose blog has a handy primer on the subject:

"This can boost the economy in two ways. First, if the central bank buys from individuals or firms, the money in their accounts with commercial banks increases, matching the rise in the banks' reserves with the central bank. This increase in the broad money supply then encourages higher spending.

"Secondly, the higher level of reserves may encourage commercial banks to lend more. The higher lending may be associated with a rise in spending and results in a further expansion of the broad money supply, with additional stimulative effects."

So, we hope that this money, funnelled into a relatively small part of the financial system, will become contagious, persuading banks to lend more and people to spend more, thus averting deflation and depression.
Yes, we're all hoping for a good contagion.


Anonymous said...

Economic indicators show that inflation threats are right around the corner. Eric Fry of the Rude Awakening examines 6 ETFs and how to prepare for the “near-certain arrival of inflation.” He says now is the time to be wary of price increases and these ETFs act as an “insurance policy” to hedge against them.

Nick said...

It's kinda astounding that everyone says the goal of creating all this new money is to stimulate lending to consumers and businesses, while ignoring the basic economic and business fact that it's a horrible time to lend to consumers and businesses. Consumers are already over-extended, and there's very little incentive to make any big purchases now: you might be very uncertain about your employment future, and the government efforts to prevent housing from becoming affordable stalls any housing or similar longer-term investments. Nobody in their right mind would lend to businesses heading into possibly the largest recession and lack of consumer spending in history. In short, it makes no business sense whatsoever to lend money right now, and no amount of printing more money is going to change that.

If the government wants to throw away money "lending" it to overextended consumers and failing businesses (which makes no business sense, is horrible for taxpayers, saver, and anyone who is financially responsible, but seems to be all the political rage), they should become the explicit lender of first, last, and only resort; instead of some misguided idiotic efforts to create enough "momentum" that private lenders commit financial suicide because it's trendy. All the government's current actions do is reaffirm that the government is horrible at economics, should not be in charge of anything economic related, and is undoubtedly both the root and overt causes of this crisis, in all its glory.

Evan said...

I'd like to take this time to make my argument against globalization, one world government, new world order, and the like. First I say that I don't know if there are evil, sinister plots for someone to take over the world in this manner. I don't subscribe to Zeitgeist: The Movie type thinking.

I notice in this whole thing that even now everything is so tied together that if one country goes down (the US) it's taking everybody with them. That's not right. It will surely be that way if there is a one world government; nobody will have a choice as to which country to live in to build their business, or what have you. It's limited now, but at least there's still a choice.

I was recently on a train trip vacation and ran across a group of Aussies. We told them jokingly "Thanks for coming over and stimulating our economy." The replied, not so jokingly, "Thanks for ruining ours."

Bottom line--countries need to be more independent of each other when it comes to currencies and economics. One world government (which it is becoming apparent that Obama and Gordon Brown are working towards) will just mean that the economy will either be good for everyone or bad for everyone across the board. If it got really bad in the USA I would consider emigrating, but there's no place to go. (Although as it is I am trying to figure out how to leave Calleefournia).

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