Tapering and quantitative tightening will be prominent topics in 2022, so I feel we need a reminder here
Central banks DON'T print money
QE simply forces the private sector to swap away duration intensive, coupon bearing bonds for 0 duration, 0 yielding deposits/reserves
1/9
Central Banks expand their balance sheet by creating reserves and buy bonds from the private sector.
The private sector now has less bonds and more reserves.
That's it, just a swap.
No ''money'' has been created.
Yeh, but what if the CB buys from another entity?
2/9
Same story, one difference
Pension funds and asset managers can't hold reserves, so they now have new bank deposits
Those are still inert, 0 duration, likely 0 yielding assets that don't find their way to the real economy
They find their way in M2 though, be careful...
3/9
M2 is a decent yet imperfect measure of ''real economy'' money - simply stated, it measures bank deposits in the system
Cool, but as we have seen above, not all newly available bank deposits are the same
A pension fund can't do much ''real economy inflationary'' with it
4/9
Also, please stop plotting Central Banks balance sheet charts against asset prices?
Japan started QE decades ago, we've been there already.
Here is the BoJ sheet as % of GDP from 2013 to 2018.
It increased from 30% to 100%!
5/9
And here is the chart of JPY measured in Gold.
According to the theory of ''Central Banks print money'', JPY measured in Gold should have tanked to zero.
It went nowhere.
Why?
6/9
Because the real money printers were not printing.
Commercial banks were not lending to an already overleveraged private sector.
7/9
And the Japanese government was raining in budget deficits year after year.
Notice as even if the outright budget deficits as % of GDP were large, the fiscal impulse (the pace of growth in deficits) was shrinking quick.
The second derivative matters a lot.
8/9
Central Banks balance sheet and excess reserves in the system are very important drivers of asset class performances and risk sentiment.
But as we head into 2022 and everybody will be talking about tapering and QT, please bear this in mind: Central Banks don't print money.
9/9
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Erdogan just promised to refund all mark-to-market losses in xxx/TRY if those losses would exceed the interest rate you can gain by owning deposits denominated in TRY.
If you believe him, you now have free carry in TRY/xxx without P&L risks.
1/4
FX carry trades (once upon a time, TRY was considered as an FX-carry candidate) work well if the interest rate differential is more than enough to offset the MtM and volatility across FX pairs throughout the lifetime of the trade.
Recently, that didn't work well...
2/4
A 10%+ yearly interest rate differential between TRY and any other ''funding'' currency like EUR or JPY was not enough to compensate even for a week of MtM losses and volatility.
Erdogan now promises to fund all your MtM losses and let you eat the pie (the carry).
How?
3/4
Answering the top 10 questions I received in a previous tweet, here we go!
1/10
Question #1: ''Why is 10yr not going up with Fed about to finish QE/star hiking/inflation printing high?''
A: 10y yields are roughly the sum of 10y real rates, 10y CPI expectations and term premium. When the Fed tightens, the medium/long-end of the bond market extrapolates lower nominal growth going forward (= lower rates) and more certainty about this outcome (= lower term premium)
Plenty of people are calling for an imminent stock market crash, but they are missing a key point: inflation-adjusted interest rates are still way below the estimated equilibrium levels!
Why does that matter?
1/11
Real yields are very relevant for savers, investors, borrowers and asset class valuations: it's not only the absolute level that matters though, but also the relative level against the equilibrium real interest rate (r*).
A low absolute risk-free real interest rate matters as:
1) It punishes savers and investors by rewarding very little (or even inflicting negative returns) on savings and risk-free investments
Over the last few years, I had sometimes the chance to meet and talk with very high level decision makers - sometimes even PMs and Central Banks’ board members!
Here is a couple of fun episodes.
1/5
Once I had dinner with the former Prime Minister of a G10 country.
We were half drunk, and I asked him why his country was not investing in financial literacy, education and other long-term easy wins. His answer?
2/5
“Young man, I have to get re-elected in few years, and the benefits of those reforms would be huge but I won’t be there to reap the political benefits. So we’d rather do some short-term unproductive but easy-to-market stimulus to get some votes”.
Commercial banks print money.
They are able to extend credit to the real economy, temporarily boosting aggregate demand and GDP.
They are not doing that, and it's key to pay attention!
Why?
1/10
The chart above shows the 2y mov.avg. of the growth in US bank lending to the real economy. It therefore excludes mortgages, but it includes commercial, industrial and consumer loans - basically credit that ends up on the account of consumers the engines of the real economy
2/10
It's now running at a very modest +1.6% on an annualized basis, peaking from the +5.0% reached in early 2020 when governments effectively guaranteed the majority of the credit risk on bank loans during the first stages of the pandemic.