Monday, January 24, 2022

Column – spilling the money pool – guess the “plus”: Mike Dolan

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LONDON () – If central banks start drying up their money pool to stop inflation from overflowing, assessing how “excess” liquidity is will be crucial for global markets.

FILE PHOTO: The Federal Reserve Board Building on Constitution Avenue Washington, DC, USA, March 19, 2019. / Lea Millis

The U.S. Federal Reserve’s New Year’s blitz, which is close to 7% inflation and full employment, has led U.S. interest rates to rise four times this year in state markets.

But for many in the financial markets, the Fed’s signals are a signal that it’s time to transfer some of the money spilled into the banking system through emergency bond purchases – money to save the wider economy during horrific pandemic blockades.

To the surprise of many investors, the Fed’s discussion of cutting its $ 8.7 trillion balance sheet began at a political meeting in December, and it agreed to phase out new bond purchases in the first quarter of 2022.

While the sheer urgency of starting to cut the balance sheet seems odd compared to plans to continue adding to it until March, many Fed officials have said the process should begin soon this year. But when and how fast?

In an interview this week, Atlanta Fed Chairman Rafael Bostic was the most obvious.

According to Bostik, the second phase, which will first allow Fed bondholders to reach maturity without reinvestment, should begin shortly after the first interest rate hike in March.

But he also said that this “quantitative augmentation” (QT) should be $ 100 billion per month, which should be twice as much as the last balance sheet shrinkage in 2017-2019, and that it has $ 1.5 trillion in net “excess liquidity. ” it had to be removed before the impact at this point could be assessed.

It was unclear where Bostik got the $ 1.5 trillion, but that’s about the same as what the Fed has been forced to pull out of the money markets every day through overnight “reverse repo” operations in recent weeks.

On Wednesday, Cleveland Fed Chairman Loretta Mester – a voting member of the Open Market Committee on Fed Policy Development this year – called Bostic and told the Wall Street Journal to cut the balance as quickly as possible without disrupting markets. he said he needed to. But he went on to say once again that the Fed should not rule out the option of actively selling its assets.

So the Fed suddenly seems very serious about it, and the market number spoilers have worked extra hard.

MEDIUM AND SPEED

The peak of what JPMorgan’s flow and liquidity analyst Nikolaos Panigirtzoglou and his team see as a global “excess money supply” is now far behind us, and its broad liquidity trustees will shrink significantly over the next two years. concluded that.

The JPM team will now see the Fed QT after a second rate hike in July, and if the monthly flow of treasury and agency bonds reaches $ 100 billion by the end of this year, the market will have to absorb an additional $ 350 billion. Debt of state and agency debtors in the second half of 2022 and about $ 1 trillion in 2023.

This is in line with the net supply of global bonds relative to demand, which he sees as deteriorating by about $ 1.3 trillion this year compared to 2021. And based on historical correlations, JPM believes that yields on global bond aggregate indices should typically see growth. an additional 35 base points.

Another direct impact on Fed QT liquidity is the reduction of commercial banks ’reserve balances in the Fed and therefore their lending capacity. Although globally this will be offset by the ongoing European Central Bank and Bank of Japan bond purchases this year, JPM believes it will be even tougher in 2023 when central banks stop buying new bonds closer to zero.

As a result of declining central bank bond purchases and a slowdown in global credit demand from pandemic peaks, they are expected to more than double the global money supply from $ 7.5 trillion last year to 2023 and return $ 3 trillion annually. are seeing. the growth rate has not been observed since 2010.

Does this burn out the “excess” prices? If we look at “excess” global proxies that measure global money growth relative to nominal GDP or the ratio of cash retained as a share of household capital and bonds, JPM believes that the surplus is already lost.

Is everything under control? Will this be enough to curb inflation and leak markets?

According to Pascal Blank, Amundi’s director of investment, we see a new inflation regime like in the 1970s, as governments need to control more money and debt rates from their central banks – restructuring and climate change after COVID with fiscal expansion required.

“Under this new regime, governments will take control of money while maintaining a widespread and two-digit growth rate over the years as part of a wider transition from free market forces, independent central banks and rule-based policies to command. oriented economy. “

According to Blank, the growth of the money supply over the past decade has not been driven by inflation, a decline in the so-called velocity of money in the real economy, or the use of the dollar in transactions has simply shifted to financial assets.

If we consider the real and inflation spheres as one, then the velocity could have been as stable as monetary theories had predicted, and the ongoing cash flow will ultimately prove inflation – even accidentally for periods like consumer and asset prices as it is now.

The author is the Editor-in-Chief for Finance and Markets at News. Any views expressed herein are their own

By Mike Dolan, Twitter: @MikeD; Edited by Mark Potter

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