Central Bankers React To Weak Global Economy

Yesterday European Central Bank (ECB) president Mario Draghi stated in his post- meeting press-conference that:

"the degree of monetary policy accommodation will need to be re-examined at our December monetary policy meeting, when the new Eurosystem staff macroeconomic projections will be available. The Governing Council is willing and able to act by using all the instruments available within its mandate if warranted in order to maintain an appropriate degree of monetary accommodation"

The equity and bond markets liked that. Possibly more cheap money to chase expensive assets with and scare the "bears" out of the market. 

This morning, to further entice the sceptics the Peoples Bank Of China (PBOC) cut its lending and deposit rates by 1/4% and lowered reserve requirements by 1/2%.

Friends, central banks do not take these actions in a strong and strengthening economy.

Low economic growth = low inflation = low interest rates.

Low interest rates = lower currency value (devaluation) = better exports.

However, lower currencies = stronger $US

And this hurts US economic growth.

Low economic growth = low earnings.

If, as is the case (on an aggregate basis), earnings are falling, 

true share value should, in fact, be doing the same.

The fact that cheap money is driving share prices higher is counter to the fundamentals.

When the cold water of reality is splashed on the faces of traders and investors, the elastic is going to snap back. Personally, I don't want to be holding that elastic when it happens, because it is going to hurt.

In the meantime, the happy buyers are falling over themselves to buy equities and we shall have to prepare ourselves to watch patiently from the sidelines for this to play itself out.

With more cheap money, also expect borrowing to increase and debt levels to rise further. 

To take a note from our weekly webinar that we recorded last Tuesday:

• In the 1980's, it took $4 of debt to get $1 of additional GDP.
• In the early 2000's, it took $10 of debt to get $1 of additional GDP.
• Now, it takes $20 of debt to get $1 of additional GDP.

Basically now, there are record amounts of debt that is working significantly less efficiently.

Economic growth is going to take a lot longer to return. That is why central bankers are lowering their expectations and further stimulating their economies.