When stripping away all the philosophy, the pompous rhetoric, and the jawboning, all central banks do, or are supposed to do, is to influence capital allocations and spending behavior by adjusting the liquidity preference of the population by adjusting interest rates and thus the demand for money.
To be sure, over the past 7 years central banks around the globe have gone absolutely overboard when it comes to their primary directive and have engaged every possible legal (and in the case of Europe, illegal) policy at their disposal to force consumers away from a “saving” mindset, and into purchasing risk(free) assets or otherwise burning through savings in hopes of stimulating inflation.
Today’s action by the Bank of Japan, which is meant to force banks, and consumers, to spend their cash which will now carry a penalty of -0.1% if “inert” was proof of just that.
Ironically, and perversely from a classical economic standpoint, as we showed before in the case of Europe’s NIRP bastions, Denmark, Sweden, and Switzerland, the more negative rates are, the higher the amount of household savings!
This is what Bank of America said back in October: “Yet, household savings rates have also risen. For Switzerland and Sweden this appears to have happened at the tail end of 2013 (before the oil price decline). As the BIS have highlighted, ultra-low rates may perversely be driving a greater propensity for consumers to save as retirement income becomes more uncertain.”
Bingo: that is precisely the fatal flaw in all central planning models, one which not a single tenured economist appears capable of grasping yet which even a child could easily understand.
This is how Bank of America politely concluded that NIRP is a failure:
For now, negative rates as a policy tool remain a “work in progress”, judging by the current inflation levels across Europe. But the rise in household savings rates amid so much central bank support is paradoxical to us, and mimics what we highlighted in the credit market earlier this year. Companies in Europe are deleveraging, not releveraging, and are buying back bonds not stock.
One can now add Japan to the equation.
And soon the US, because as the chart below shows, the Fed has likewise dramatically failed in shifting the liquidity preference of US investors. First, here is what Bank of America finds when looking at recent fund flows:
4 straight weeks of robust inflows to govt/tsy bond funds; 19 straight weeks of muni bond inflows; since 2H’15, cash has been the most popular asset class by far ($208bn inflows – Chart 1) vs a lackluster $7bn inflows for equities & $46bn outflows from fixed income (dogged by redemptions from credit)
And here is the one chart which in our opinion virtually assures that the Fed will follow in the footsteps of Sweden, Denmark, Europe, Switzerland and now Japan.
Since the middle of 2015, US investors have bought a big fat net zero of either bonds or equities (in fact, they have been net sellers of risk) and have parked all incremental cash in money-market funds instead, precisely the inert non-investment that is almost as hated by central banks as gold.
To Yellen, this behavior will have to stop, and she will make sure it does sooner rather than later. Just ask Kocherlakota.
Will this crush money markets as we know them, and unleash even more volatility and havoc around the world?
Absolutely. But at this point, when every other central bank has lost credibility, to paraphrase Hillary Clinton loosely, “what differnce will it make” if the Fed joins the party on the central bank Titanic?
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