Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 42

QE causes currency and fiscal impotence

The world has never worked through a period where Quantitative Easing (QE) has been undertaken by most of the major global economies, including for the first time the United States.

A goal of QE is to increase liquidity through the central bank by buying illiquid bank assets, freeing up funds which the banks should in turn lend to consumers and businesses. This has not occurred in the US. Instead banks have tightened their credit criteria and are using QE as an opportunity to re-capitalise their balance sheets. QE is a godsend to US banks as it is simpler and substantially cheaper than raising equity capital. It has helped to address a bank solvency issue but has not increased money supply.

Having a strategy to deal with it is critical, yet neither the Reserve Bank of Australia (RBA), nor past or present governments have articulated one. QE is the foremost issue impacting on our economic future.

Put simply, QE is an admission of failure to properly manage an economy in prior years that results in a central bank having to print money to stimulate economic growth. On a global scale, countries that have made a mess of their economy and are engaging in QE generate flow on problems to the rest of the world.

Exchange rates no longer reflect fundamentals

The first casualty of QE is exchange rates. Rather than a rate reflecting underlining economic fundamentals, there is a distortion of both spot and forward markets as those countries engaging in QE attempt to devalue their currency, to improve their competitiveness and increase exports.

For Australia, these so-called currency wars are a major factor causing the strength of the Australian dollar, as global investors seek out safe haven currencies. This combined with continuing strong commodity prices and Asian investors looking to protect their wealth through Australian property investment are maintaining the upward pressure on the Australian dollar.

Another impact that needs to be considered is whether the nexus between the Australian dollar and commodity prices has been broken in the long term. Only time will tell, however if it has not and the Australian dollar’s correlation with commodity prices returns, then Australia will once again be relegated to being a price taker, not maker. For the nexus to remain permanently removed we must continue transforming the Australian economy through significant productivity improvements to reduce unit costs of production. We must also commercialise our innovations and embrace the structural changes to our economy that the internet and offshoring are driving. These major challenges can bring huge rewards.

Rates rise and equities fall on hint of tapering

Low interest rates associated with QE encourage investors to switch from cash to higher risk assets. On this score QE has been successful as investors have returned to equity and property markets. However, it only takes a slight hint of tapering to cause equity markets to fall.

Interest rates around the world will increase when tapering commences as competition between governments for budget deficit funding intensifies. For Australia, the Federal budget deficit will blow out further as interest costs on current borrowings jump before including the funding costs for the proposed infrastructure projects. Based on recent company earnings forecasts, tax receipts will remain stagnant, so the pressure is on the Federal Government to make necessary structural changes to the budget if it wants to return to surplus over the forward estimates.

The RBA has acknowledged that its response to global QE through lower interest rates has proven impotent. The Australian dollar will continue to ride high regardless of RBA policy settings as the QE programs of major economies wreak havoc on economies that have been managed well. Australia must fight back with well thought-out strategies. In addition to addressing structural problems within the budget, tax and industrial relations reform, we should be looking at re-negotiating free trade agreements with QE protagonists while avoiding protectionism. We need to broaden our intellectual property laws and advocate solutions that place less reliance on the world’s reserve currency.

 

Michael McAlary is Founder and Managing Director of WealthMaker Financial Services.

 


 

Leave a Comment:


RELATED ARTICLES

Brace, brace, brace: The real issue behind the banking turmoil

RBA justifies its QE to QT, but did it drive inflation?

Is it all falling apart for central banks?

banner

Most viewed in recent weeks

Welcome to Firstlinks Edition 581 with weekend update

A recent industry event made me realise that a 30 year old investing trend could still have serious legs. Could it eventually pose a threat to two of Australia's biggest companies?

  • 10 October 2024

The nuts and bolts of family trusts

There are well over 800,000 family trusts in Australia, controlling more than $3 trillion of assets. Here's a guide on whether a family trust may have a place in your individual investment strategy.

Welcome to Firstlinks Edition 583 with weekend update

Investing guru Howard Marks says he had two epiphanies while visiting Australia recently: the two major asset classes aren’t what you think they are, and one key decision matters above all else when building portfolios.

  • 24 October 2024

Warren Buffett is preparing for a bear market. Should you?

Berkshire Hathaway’s third quarter earnings update reveals Buffett is selling stocks and building record cash reserves. Here’s a look at his track record in calling market tops and whether you should follow his lead and dial down risk.

Preserving wealth through generations is hard

How have so many wealthy families through history managed to squander their fortunes? This looks at the lessons from these families and offers several solutions to making and keeping money over the long-term.

A big win for bank customers against scammers

A recent ruling from The Australian Financial Complaints Authority may herald a new era for financial scams. For the first time, a bank is being forced to reimburse a customer for the amount they were scammed.

Latest Updates

Property

Coalition's super for housing plan is better than it looks

Housing affordability is shaping up as a major topic as we head toward the next federal election. The Coalition's proposal to allow home buyers to dip into their superannuation has merit, though misses one key feature.

Planning

Avoiding wealth transfer pitfalls

Australia is in the early throes of an intergenerational wealth transfer worth an estimated $3.5 trillion. Here's a case study highlighting some of the challenges with transferring wealth between generations.

Retirement

More people want to delay retirement and continue working

A new survey suggests that most people aged 50 or over don't intend to stop work completely when they reach retirement age. And a significant proportion of those who delay retirement do so for non-financial reasons.

Economy

US debt, the weak AUD and the role of super funds

The more the US needs capital and funding, the higher its currency goes. For Australia, this has become a significant problem as the US draws our capital to sustain its growth, putting pressure on our economy and the Aussie dollar.

Investment strategies

America eats the world

As the S&P 500 rips to new highs, the US now accounts for a staggering two-thirds of the world equity index. This looks at how America came to dwarf other markets, and what could change to slow or halt its momentum.

Gold

What's next for gold?

Despite a recent pullback, gold has been one of the best performing assets this year. What are the key factors behind the rise and what's needed for the bull market in the yellow metal to continue?

Taxation

Consulting on the side? Don't fall into these tax traps

Consultants must be aware of the risks of Personal Service Income rules applying to their income. Especially if they want to split their income or work through a company.

Sponsors

Alliances

© 2024 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.