If the flow of central bank purchases matters more than the stock, asset prices may lose a key pillar of support — a year from now.
The “flow versus stock” debate is important. I used to bring it up at regular intervals.
Some would tell you that when it comes to QE, it’s the stock that matters most. Sequestering assets away on central bank balance sheets and reinvesting the proceeds from maturing assets creates an artificial shortage, thereby supporting prices.
I’ve generally fallen on the other side of the debate. To me, it’s the flow that matters. After all, an ongoing, incremental bid from a price-insensitive buyer is a helluva thing.
Nobody that I’m aware of takes seriously the idea that central bank balance sheets will ever return to normal, where “normal” means pre-financial crisis levels. Maybe, years from now, after tapering, assets will be allowed to passively roll off, but even that’s up for debate. Actively selling assets is even less likely, something Jerome Powell emphasized a few weeks back.
Canada is tapering its bond-buying but… well, I’ll just be polite and say that the world doesn’t exactly turn on Canadian monetary policy, even if the BOC’s announcement this week was characterized by some as a bellwether. The guidance was benign. “Looking ahead, further adjustments to the pace of net purchases will be guided by our ongoing assessment of the strength and durability of the economic recovery,” Tiff Macklem said. “Further adjustments to our QE program will be gradual, and we will be deliberate both in our assessment of incoming data and in the communication of our analysis.”
In any case, BofA’s Michael Hartnett described Canada’s move as the beginning of the “Great Tapering.” The figure (below) shows BofA’s estimates for the quarterly pace of net purchases from the Big Four.
“The pace [is] forecast to fall from $8.5 trillion in 2020 to $3.4 trillion in 2021 to $0.4 trillion in 2022,” Hartnett remarked.
As we’ve seen over the past decade, charts like the one shown above often end up being more useful as fodder for jokes than they are for any actual predictive value. Our future selves get to chuckle at them — “Oh, how quaint. We were naive enough to believe the Big Four would only buy a net half-trillion in assets this year.”
Do note: When I say “we,” I’m not casting aspersions at any forecasts. I’ve been just as naive as the next person over the years in thinking that eventually, a sustained taper would be achievable.
And it might be achievable for the Bank of Canada or for the RBA. But for the Fed, the ECB and the BOJ, the state of exception is permanent.
When Powell told the Economic Club of Washington earlier this month that he doubts the Fed would ever sell bonds into the marketplace, it wasn’t “news,” but it did underscore a sense of permanency around balance sheet expansion. Tapering asset purchases is something that must be done with great care and months of forewarning. Passive runoff is something that could end in disaster (e.g., the funding squeeze that came calling in September 2019). And outright, active selling into the market is now viewed as a total non-starter.
Commenting on the upcoming FOMC meeting in a Friday note, TD said “we don’t expect any substantive new signal yet on tapering.”
“Yes, the tone on the economy should be a bit more positive than in March [but] strengthening in the data will have to continue for a while and convincingly imply a pickup in the trend in inflation to lead to tapering,” the bank went on to say. The title of the note: “Too Soon for ‘T’ Word.”