Macroscope | No quick fixes left as global economy battens down for Fed’s first rate hike
Global policymakers might like to think they have walked on water with quantitative easing, but as Japan has shown over recent decades, once deflation gets embedded, economic miracle cures are no easy solution. The latest downturn in energy and commodity markets is another unsettling sign major economies and global financial markets are heading for another deflation wave and tougher times ahead.
Two decades on from Japan’s first foray into QE, the nation’s leaders are still battling to wrestle the economy from the grip of chronic recession risks and deflation dangers - and they remain a long way off from normalising policy. It has been a long hard battle and it is not over yet.
If the Fed miscues and global confidence goes into knee jerk reverse, there is little to stand in the way. The world’s policymakers have run out of easy options
There must be many central bankers from leading industrial countries suffering acute night terrors, wondering how to retreat from zero interest rates and the explosion of QE-led bond buying since 2008 that has left them with an unfathomable puzzle. That is, how to reduce the dependency on super easy monetary accommodation without damaging growth?
This week, the US Federal Reserve will attempt to do just that when it finally lifts interest rates after seven long years at zero per cent. The Fed has decided the time is ripe to begin the return journey to neutral interest rates somewhere around the 3 to 4 per cent mark.
The second leg of ‘mission impossible’ comes later on when the Fed starts disposing of its huge 4-1/2 trillion dollar stockpile of QE assets. There is no date fixed for that yet, but the Fed probably wants to put it off for as long as possible. It could wreak a terrible toll on the global economy and world financial markets.
The world can do without more turmoil. Since 2008, the global financial crisis has already been through three disastrous phases. The credit crunch in the US and UK, Europe’s sovereign debt crisis and more recent emerging market mayhem have all left global confidence in a precarious state. There may be no easy way back from a ‘fourth wave’.
When the Fed eventually pares back its over-bloated balance sheet, global liquidity will feel the pinch. So too will global asset markets which have been kept afloat by vigorous QE pump-priming for the last seven years. Investors who have indulged in cheap, easy leverage will suffer severe withdrawal pains as rates go up and liquidity is squeezed.