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Reuters

When it comes to creating inflation, bond buying by central banks may actually ultimately be counterproductive.
Quantitative easing continues to be a mainstay of the policy reaction to the economic malaise. Yet here we are five years later and the evidence that QE can kindle inflation, much less revive the economy, is decidedly mixed.
In part that may be because everyone realises that QE is not forever: ultimately the bonds the bank buys will have to be repaid.
It is also true - and here we can consider the remarkable valuations of Twitter and Pinterest - that QE causes bad investments, which ultimately must be deflationary.
With United States inflation rising just 1.2 per cent year on year in September, well below the Federal Reserve's 2 per cent target, bond buying by the central bank will continue - a bit like the old joke about beatings carrying on until morale improves.
Very radical increases in bond buying in Japan under Abenomics - more or less a pledge to buy and buy assets until inflation reaches 2 per cent - has also had only mixed success so far, with core inflation flat in the year to September.
That this, the first time Japan core inflation has not fallen outright since the end of 2008, is seen as a victory is itself a bit of an indictment of extraordinary monetary policy.
Dangerously falling inflation in the euro zone has prompted calls for the European Central Bank to join in the bond buying, despite its signal lack of success elsewhere. The ECB is arguably already engaging in QE as its programme of providing long-term financing to banks often leads to banks buying government bonds themselves.
So, QE everywhere, and everywhere unsatisfactory inflation and at least the threat of falling prices. Could there be a relationship? Part of the failure of QE may be explained by the fact that as a percentage of broader money supply the amounts involved are small. Banks must lend and businesses invest or QE will be swamped.
In some ways, all of the inflationary effects of QE are short-lasting and liable to reversed. Not only is everyone involved aware that ultimately the bonds are not being bought and burned, but bought and held, and thus must be repaid or will be sold by central banks.
Also, QE encourages private investors to gamble a bit, perhaps leading to poor choices.
"Unproductive investment is by nature ultimately deflationary," Michaela Marcussen, the global head of economics at Societe Generale, wrote in a note to clients. "This is a point also worth recalling when investing in paper assets fuelled by QE liquidity and not underpinned by sustainable economic growth."
And this brings us to the boom in initial public offerings, particularly in technology. Twitter, that microblogging wonder, raised the top end of its initial public offering price range by 25 per cent on Monday. The firm may end up being valued at almost US$14 billion, or about 13 times revenue. Not 13 times earnings, but 13 times revenue.
For comparison, Boeing, which makes aircraft rather than selling advertisements against tweets, fetches a bit more than one times sales. Microsoft goes for about 3.5 times sales.

	[Deflation risks are present ] when investing in paper assets fuelled by QE

	MICHAELA MARCUSSEN, ANALYST
Pinterest, an internet service which allows users to post pictures and other media, raised US$225 million recently in a private deal placing a US$3.8 billion value on the company. That is US$158 for each of its 24.9 million users. Pinterest has never reported revenues and very well may not have any.
Clearly Pinterest and Twitter are growth companies, and may well amply repay their investors with future actual profit derived from future revenue. But there can be no guarantees.
Things feel a bit bubbly and the problem with bubbles is at least twofold. In a bubble, people build and invest in things which are not themselves needed and ultimately do not create genuine revenue and growth. Think of all the rotting houses in Florida during the crash, or the empty cities of dusty apartments and stores in China (which themselves are arguably the fruit of QE).
Those investments were stimulative for a while, but ultimately highly deflationary.
In different ways, although by different paths, the same thing may prove to be true about investments made now during the time of QE. All debts ultimately must be repaid, defaulted on or forgiven. Not much progress has been made on any of those three scores.
Reuters


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The sting in the tail of efforts to boost inflation through quantitative easing is that deflation can result from a surge in unproductive investments


When it comes to creating inflation, bond buying by central banks may actually ultimately be counterproductive.
