Central banks have reached the limits of monetary policy. That was the conclusion reached by Jeffrey Rosenberg, managing director and chief fixed income strategist for BlackRock, in his keynote address at the Inside Fixed Income conference in Newport Beach, California on Thursday.
In his talk, aptly titled, "The Limits To Monetary Policy," Rosenberg said that in the wake of the financial crisis in 2008, central banks turned to nontraditional monetary policies―including zero-interest rates and quantitative easing (QE)―with a goal of boosting the value of financial assets (including housing) and increasing consumer confidence and spending.
Those policies were largely successful in their goals. However, by continuing those policies eight years after the crisis, central banks have reached the point of diminishing returns―or worse.
Rosenberg said that when interest rates first fell to these low levels, they encouraged people to save less and spend more. But as rates have stayed low, some people (like retirees) are discovering they have to save more to generate income. That, presumably, can be counterproductive for the economy.
Flattening Yield Curve
Another problem created by nontraditional monetary policies, and particularly negative interest rates, is the resulting flattening of the yield curve. The flatter yield curve hurts financial intermediaries, such as banks, and disincentives them from making loans.
"Much of the post-crisis global monetary policy response has tried an end run around the financial sector. But where that ends up harming intermediation, the results can backfire," explained Rosenberg.
According to him, the Bank of Japan acknowledged this when it abandoned its QQE + negative interest rate policy and replaced it with a QQE + yield curve control policy at its September meeting.
"The shift from the previous policy explicitly acknowledges the limits to monetary policy’s ability to circumvent financial intermediation," said Rosenberg.
Ever since the BoJ shifted gears, yield curves have been steepening, not just in Japan, but around the world.
In the U.S., yield curves may also be steepening due to inflation. According to Rosenberg, there is an inflationary trend emerging in the U.S. economy because inflation expectations are rising. That's why he prefers Treasury inflation-protected securities over nominal Treasurys.
Contact Sumit Roy at [email protected]