Central banks: Pushing on a string

Jonathan Boyd
Central banks: Pushing on a string

Since the great financial crisis central banks have been on the front line of efforts to revive inflation and boost depressed economic growth by injecting an incredible amount of liquidity into the system.

Quantitative easing[1], negative interest rate policies and a variety of creative measures have been engineered in order to avoid a widespread credit crunch and to dispel the specter of deflation. Some positive results have been achieved, but the overall outcome has been inconsistent. We recently gathered together Pioneer Investments’ team heads to discuss the role of central banks (CBs) going forward and the implications for financial markets.

A shared opinion was that while orthodox and unorthodox monetary policies have contributed to the stabilization of growth in recent times, they have also presented a number of drawbacks and appear insufficient if not supported by expansionary fiscal policies and structural reforms. CBs are not the deus ex machina able to address the problems of high debt and weak systemic growth. In an absence of support from the fiscal side, asset price inflation, distorted valuations and, ultimately, unbalanced growth accompanied by rising inequalities may destroy what monetary policy has struggled to achieve so far. With the fiscal compact constraining the budget for European countries, and an election year in the US, markets are heavily relying on CBs to have superpowers.

This is fine, as far as it goes. But our investment specialists share the view that nothing comes for free. Markets are increasingly testing CB effectiveness, pushing them to over-deliver, but this strategy can become dangerous. The risk of disappointment is rising and could stir new waves of volatility. Without a turning point on the fiscal side, CBs could move from being part of the solution to becoming part of the problem.

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