QE2 – A sticking plaster while Europe solves its crisis?

6th October 2011

Some commentators suggest that the process, while not addressing any long term issues, may allow the UK economy some breathing space while Eurozone nations grapple with a permanent reform to deal with the crisis and satisfy bond and stock markets.

The Telegraph reports on a range of analysts' comments. Currency traders believe that sterling may fall –  business leaders have welcomed the move, while others have expressed surprise at the scale at around 5 per cent of GDP.

But arguably the most telling comment sees Chris Williamson, chief economist at Markit, saying: "it is perhaps at least a worthy sticking plaster, which should bolster the domestic economy and play an important role in the global response to the slowdown, until European policymakers can find a resolution to the region's sovereign debt crisis and the UK government outlines a coherent strategy for growth, both of which are required to lift confidence among business and households for any recovery to be robust and sustainable."

Fund manager Schroders expects higher inflation and worries that the fall in inflation has not boosted experts.  

Chief economist Keith Wade says: "The problem is, Gilt yields are already low, so would a slightly lower yield be enough to compensate investors for the rise in default risk? We think not.  The BoE appears confident that QE can kick start growth. We have seen little evidence of a direct positive impact on growth, but raising confidence and asset prices is bound to help, albeit temporarily. Meanwhile, we do expect higher inflation as a result of the impact on Sterling. So far, QE and the fall in Sterling appears not to have boosted export volumes, only profitability, implying that new companies are struggling to set up and enter these markets."

FTAlphaville quotes Alan Ruskin of Deutschebank saying: "The comments that inflation will rise above 5% in the short-term, and then undershoot 2% in the medium-term asks a lot of the market to believe, but is the foundation of the decision to use QE again."

He notes that QE is to be spread over four months, to fit with decisions on interest rates which may mean it has less of an impact.

Cheviot Asset management's David Miller is underwhelmed.  

"A new round of quantitative easing won't hurt, but it is hardly revolutionary. While it will help to sustain low interest rates, it won't do much to improve the conditions for commercial borrowers. A more effective form of intervention would be direct help for businesses needing to borrow. Still, it is good to see that QE2 has set sail at last, even if nobody is sure where it will end up," he says.

Stephanie Flanders, on her BBC Stephanomic's blog, is in sceptical mood. She writes: "Some say that QE is all a confidence trick – albeit, an important one. What, exactly, the Bank does is less important than the fact that it is seen to be doing something.The US comedian, Mitch Hedberg, had a line I reprised on the Today programme this morning: "My fake flowers died, because I forgot to pretend to water them. There's something of that in the city's support for QE2. It may not do a huge amount of good, but it could seriously hit confidence if the Bank seemed to have nothing left to throw at the recovery."

More from Mindful Money:

What is the cure for the UK's sick economy?

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20 thoughts on “QE2 – A sticking plaster while Europe solves its crisis?”

  1. Anonymous says:

    Shaun – a most interesting appraisal. May I seek your guidance on one issue…. you suggest devaluation for Spain (along with others). But surely within a currency union this is not possible. Or were you referring to an overall devaluation affecting all EZ countries? Apologies for the ignorance, but you have given much food for thought.

    1. Anonymous says:

      Hi Ray

      There are two routes by which Spain could devalue. The simplest would be to return to the Peseta as its currency and we would see it immediately marked down compared to the current Euro price.

      The other would be for the Three Euros or as Claire I think put it the Good the Bad and the Ugly! Actually though the Ugly lower priced Euro would be good for Spain…So we would replace the one Euro with 3 different currency unions with Spain at the lowest end.

      1. Anonymous says:

        Shaun, thank you; I can follow the reasoning. May I therefore assume that each “Euro” would be traded within specific bands (with each other) and similarly with external currencies (3 bands with the pound, for example?)

        1. Anonymous says:

          Hi Ray

          That is an interesting idea and may be more paletable to the Euro members than my one! The catch is that maybe it lacks flexibility. I was thinking of them being relatively free floating but your idea of going back to “the snake” has appeal.

  2. kdh says:

    “The option of fiscal union and Eurobonds may well have missed its window of opportunity in time and we are left with some form of devaluation. If it is not to miss its own window of opportunity it needs to happen soon.”

    Well, with their record to date, I very much doubt this will be the case.  Too many vested interests in dragging this out for as long as possible, thereby getting more tax payers money to offset the banks bad debts

    1. Anonymous says:

      Hi kdh

      Like so many possible ways out of this morass if fiscal union/Eurobonds were to be used it would have been much better to have already deployed them.

  3. JW says:

    Hi Shaun
    Great piece. Apologies for repeating myself but until Germany squeals that TARGET2 is too much this will continue. When it does, Euro split will happen.
    Again apologies for the source but the 2 graphs in the attached piece show the monetary effect of TARGET2 rather well.

    1. Anonymous says:

      Hi JW

      TARGET2 is one of those factors that on a scale of 0 to 1 has an acceleration of the maximum i.e 1! Like everything else the weakening of a larger country like Spain would put a lot more pressure on the TARGET2 numbers and adding in Italy would mean some steam would need releasing..

      1. Rods says:

        Hi Shaun,

        Another excellent blog again.

        Just been reading up on target2 


        I have the following questions:

        If Spain and Italy’s increased borrowing is due to capital flight. What happens when a bank’s securities to pledge run out?
        Am I correct in this scenario?

        Either the sovereign country tax payers pick up bill to stop a ‘too big to fail bank’ from going belly up or it is allowed to fail and if the securities are worth somewhat less than their face value like Spanish mortgages then the good old Eurozone taxpayer picks up the tab?

        1. Anonymous says:

          Hi Rods

          Thank you. In a nutshell the TARGET2 system depends on the Euro itself. If it survives then they can shuffle credits and debits across national borders virtually to their hearts content. In a way the UK does this with banks from differing regions.

          But we do not need a TARGET2 because we are one country with political and fiscal union and here is the rub, what happens if someone leaves and refuses to pay or cannot pay?

          They could still shuffle around and kick cans for Greece or Portugal and maybe both but not Spain or Italy.

  4. Andy Zarse says:

    Synchronicity city or what!

    My O/H is Dutch and she was complaining this morning about the poor rate she now gets on TX-ing Euros to GBP (she’s paid in Euros). 

    Not only that she was complaining about the low USD rate she got on our recent Caribbean holiday, I reckon these Euro-types have been spoiled for currency the last few years! 

    If the EZ and US economies keep moving away from each other the only result will be a Euro massacre on the exchange markets. Forex traders will shift Euros to the stronger $ and depress the Euro which will make the Germans very cross indeed.
    The SNB floor is starting to come under attack again too. I heard that someone just got away with a 1.1960 trade on Euro/CHF and rumour has
    it the SNB had to spend a billion on Thursday to protect the Chuff. The SNB is going to have a long and expensive summer defending their silly peg…
    As you say Shaun, the lull is over and it looks like life is about to get
    interesting again. Forget the
    politics, they are a sideshow… the money is starting to talk!

    1. Anonymous says:

      Hi Andy, nice musical reference too! ( The Police’s last album I think…)

      Whilst the media like the occassional the Euro is collapsing headline they do not follow exchange rates over time. For the economic impact you need to follow over months and years.

      On a one day horizon markets reversed a little later in the day and the £/Euro went back to 1.21 but it remains true that it looked like it turned at the beginning of 2009 and I wonder how high it might go. On the other side of your O/H’s argument is that back in 2007 if I remember rightly I changed up my cash at 1.50 for a holiday in Rome….

      It has been my argument that promising “unlimited intervention” was unwise and has a high chance of ending up looking outright stupid.

  5. Baboo says:

    Apologies for a non-economic digression but thank you so much for the intriguing detail that King Juan Carlos “accidentally” shot and killed his brother. Did you know that King Bhumibol of Thailand also did the same. I could go on about a pet conspiracy theory of mine though though I believe it is out of place here.

    1. Anonymous says:

      Hi Baboo and welcome to my blog

      Over history there have been plenty of examples of fratricide in Royal familiies and it is intriguing that Thailand as well as Spain have seen examples of it in more recent times. Not a good advert for inbreeding is it?

      1. MickC says:

        Well, the shooting of royals will surely curtail the inbreeding!

        Somewhat more seriously, do you have/are you prepared to give a forecast for the likely timing of a Euro break-up? Last September, then March were favoured by some, but they came and went and the can just got kicked further.

        1. Anonymous says:

          Hi Mick

          I can tell you that I think that either the Euro should break up into the Three Euros or that several countries should leave. I can tell you that I think they should do it now.

          But the can-kickers seem to enjoy the game so that they will have to be forced into it and predicting exactly when that will happen is in the “expect the unexpected” zone…

  6. Ian_jones says:

    You have to wonder how Santander managed to avoid all the trouble and then buy lots of British banks/building societies. Either she had clever people in charge or just lied about its assets and losses. I can guess which.

    As for the King of Spain, what a horrible man.

    1. Anonymous says:

      Hi Ian

      I have wondered that and have written about Santander on here. As we are friendly with Spain there is no reason why we would stop them buying a UK bank but I would have restricted how many they bought. After all “too big to fail” is one of the major problems.

      I am told that Santander has thriving businesses in South America although if it is true that Argentina has nationalised the Spanish oil company subsidiary YBF that many not be looking quite so good tonight.

  7. Drf says:

    “The problem here is that nearly everybody has rumbled the problem of
    applying austerity to a weakening economy. It is simply that you weaken
    the economy further which then requires more austerity as you chase your
    tail. Even worse the Greek experience of this shows little or no sign
    of any improvement.”  It seems this logic is based upon the concept that government spending contributes to the real GNP rather than being a cost centre which actually retards an economy!  Hong Kong blossomed economically when the civil servant (Sir John Cowperthwaite KBE, CMG) sent there to prosper it realised that laissez faire and low taxation was what actually stimulated an economy. He is now revered still in Hong Kong. 

    1. Anonymous says:

      Hi Drf

      There is no chance of such austerity medicine being applied in the Euro. I was referring to the Euro branded austerity which cuts minimum wages and rasies taxes but does little to shift the deadweight in the respective economies. The problem is that the most deadweight these days is at the top!

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