When a central bank begins QE the market is not flooded with cheap cash. In fact, the opposite situation pertains at the time QE begins. There is a lot of de-leveraging, paying down of debt, and belt tightening going on. It takes months for the additional money created through QE to find its way into the economy. However what does happen right away is that traders begin to sell the currency in anticipation of it weakening, which of course then becomes self fulfilling prophesy. As the currency weakens relative to the currencies of trading partners, equity prices naturally rise. Traders will go short the currency and long equities in anticipation of the ultimate effect of QE.
QE was very effective in rescuing the U.S. market, for example, and for many months the U.S. equities market moved in lockstep with the dollar futures, in opposite directions of course. This tight connection between equities and the currency is gradually lost as the economy, and currency, recovers from recession, and an end to QE is anticipated. I would expect to see a similar pattern in Japan assuming they can get their act together and stop throwing monkey wrenches into the works, such as they did when they announced an 8% consumption tax! (Fortunately that decision was quickly rescinded. What were they thinking!?)
The central bank's goal is to make money available to the banks for lending and to the government for stimulus spending. But the difficult part is changing the collective mindset from woe is me to happy days are here again. A market recovery is an important step in that process. Until the mindset change kicks in, the government has to fill in as the source of demand in the economy. As the recovery continues, government revenues rise in both nominal and real terms. The Central Bank can begin the long process of unwinding its bond position. Naturally this has to be done very carefully so as not to cause a steep and sudden rise in interest rates. Naturally too, markets overshoot on the way into a recession and on the way out. That's the nature of real markets. Central bankers have more than adequate tools to moderate markets and keep extreme bubbles from forming if they want to. However they have not made good use of these tools at times in the past when they otherwise might have. I think that is mainly because they believed in outmoded, incorrect market theory, but also of course out of fear that they might go too far and tip the economy into recession..
Greenspan was very good during smooth sailing, but a terrible Chairman when sailing in stormy weather. His forte was in playing the hands-off role, where he was masterful, but when it came time to enforce regulation and use the less-commonly used tools available to him, he sat on his hands. I do not believe, as some do, that his inaction was out of ignorance. The evidence shows he was fully aware of what was transpiring in the mortgage-CDO-CDS cycle. His inaction was due to his lack of belief in regulation, not ignorance of what was going on. He believed in a market equilibrium theory that is false. He has said he failed to recognize that bankers would act against their own self interest. This played a hand in his failure, but I firmly believe that at the root of his failure to act was a belief that markets, if left alone, would self-correct their excesses with out undue harm. He was wrong, and Soros is right. Markets, if left alone, will tend to move spontaneously away from equilibrium, not towards it. Soros has explained very nicely why this is so. He, Soros, when bit younger, would have made an outstanding Fed Chairman.
QE was very effective in rescuing the U.S. market, for example, and for many months the U.S. equities market moved in lockstep with the dollar futures, in opposite directions of course. This tight connection between equities and the currency is gradually lost as the economy, and currency, recovers from recession, and an end to QE is anticipated. I would expect to see a similar pattern in Japan assuming they can get their act together and stop throwing monkey wrenches into the works, such as they did when they announced an 8% consumption tax! (Fortunately that decision was quickly rescinded. What were they thinking!?)
The central bank's goal is to make money available to the banks for lending and to the government for stimulus spending. But the difficult part is changing the collective mindset from woe is me to happy days are here again. A market recovery is an important step in that process. Until the mindset change kicks in, the government has to fill in as the source of demand in the economy. As the recovery continues, government revenues rise in both nominal and real terms. The Central Bank can begin the long process of unwinding its bond position. Naturally this has to be done very carefully so as not to cause a steep and sudden rise in interest rates. Naturally too, markets overshoot on the way into a recession and on the way out. That's the nature of real markets. Central bankers have more than adequate tools to moderate markets and keep extreme bubbles from forming if they want to. However they have not made good use of these tools at times in the past when they otherwise might have. I think that is mainly because they believed in outmoded, incorrect market theory, but also of course out of fear that they might go too far and tip the economy into recession..
Greenspan was very good during smooth sailing, but a terrible Chairman when sailing in stormy weather. His forte was in playing the hands-off role, where he was masterful, but when it came time to enforce regulation and use the less-commonly used tools available to him, he sat on his hands. I do not believe, as some do, that his inaction was out of ignorance. The evidence shows he was fully aware of what was transpiring in the mortgage-CDO-CDS cycle. His inaction was due to his lack of belief in regulation, not ignorance of what was going on. He believed in a market equilibrium theory that is false. He has said he failed to recognize that bankers would act against their own self interest. This played a hand in his failure, but I firmly believe that at the root of his failure to act was a belief that markets, if left alone, would self-correct their excesses with out undue harm. He was wrong, and Soros is right. Markets, if left alone, will tend to move spontaneously away from equilibrium, not towards it. Soros has explained very nicely why this is so. He, Soros, when bit younger, would have made an outstanding Fed Chairman.
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