Global QE Ends In 2018


from Time

The biggest story in the financial markets in the next 12 months is the shift in global monetary policy away from being accommodative as central bankers taper and, in the Fed’s case, shrink their balance sheet. The chart below shows an estimate of central bank liquidity as a percentage of GDP. 

There have been various mini-panics during this economic recovery whenever central bank added liquidity slows. In the next 18 months, the growth will slow until it becomes negative in 2019. The fact that stimulus needed to be pumped into this economy the entire recovery gives credence to the argument that this has been a artificially induced recovery, something that is not indefinite. Even though the Fed calls quantitative easing stimulus, St. Louis Fed Vice President Stephen Williamson said:

“There is no work, to my knowledge, that establishes a link from QE to the ultimate goals of the Fed—inflation and real economic activity.”

When the Fed was doing QE, it wanted to talk up the policy to calm the market. Then when it was done, the Fed wanted to talk it down to calm the market. The Fed isn’t completely honest because it must worry about how its statements affect the market. Since the Fed isn’t going to give us a straight answer as to the affects of QE, let’s look for ourselves to see what its reversal will do in the next 12 months.

If you look at the black line in the chart above, the central bank liquidity injected into the economy was about 2{5f621241b214ad2ec6cd4f506191303eb2f57539ef282de243c880c2b328a528} of GDP when global stocks fell and the financial conditions index rose (tightened) in 2016. There were recession fears in early 2016, but the central banks pumped currency into the markets to prevent one as you can see from the central bank liquidity chart. The central bank liquidity is expected to fall to that same 2{5f621241b214ad2ec6cd4f506191303eb2f57539ef282de243c880c2b328a528} rate in 2018 and continue lower, which makes us wonder if the same thing will happen again. The pivotal moment will be when Mario Draghi announces the ECB’s tapering program in the fall/winter of 2017.

You might be wondering why central banks are going through with this if these negative consequences will result. One reason is because if the central banks said there was QE infinity coming, the marketplace would break. Speculators are currently putting money in low yielding European corporate bonds as well as U.S. stocks to front-run monetary policy. If unlimited global QE was announced, the speculation would increase and be permanent. The Fed is worried about the lack of volatility in the stock market. A perennially increasing stock market isn’t as great as it sounds. Tech stocks increased for years in the 1990s which led to a big crash. Manipulating the length of the business cycle through artificially induced booms, create drastically prolonged busts – neither of which is good for the economy in the long-run. Nothing moves in a straight line forever up or down. Venezuela’s stock market is up exponentially because of inflation, at the expense of the currency’s purchasing power. The stock market should fluctuate in a healthy capital market. The more corrections there are, the healthier it is in the long-run for markets.

As you can see from the chart below, global equities increased and the Goldman Sachs Financial Conditions index decreased (loosened) when global QE was injected into the market. 

The chart above shows when QE is injected in the market, financial conditions loosened and the dollar sold off. The dollar is a flight to safety trade which is why it gets bought in times of strife like 2016. This isn’t to say the dollar will necessarily rise in 2018 when global tapering begins. 

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  1. QE never ended and never will. QE now includes stock market and crypto. They are going to follow the inflation playbook to deal with debt.

    • You are correct, there is still an ongoing quasi QE for the reason that the fed funds rate is lower than the yield on US Treasury bills, such as the 10 year. Which means instead of holding capital with the Federal Reserve, banks instead are buying up bonds and pocketing the difference, thus fueling demand for treasury bills. With regards to the longterm, QE will resume, but only when the Fed is unable to unload its balance sheet, or because an unload of the balance sheet causes a liquidity crisis since no other central bank has yet stepped up to soak up the assets the Fed will be selling in a game of hot potato.

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