It has kept banks afloat, let corporations build large cash reserves and restructure debt and, arguably, staved off a worldwide depression. But the ultimate aim — strong and self-sustaining growth in the world’s core industrial economies — remains out of reach, and analysts are wondering whether central banks are at the limits of what they can do to help.
For three of the four central banks involved, their local economies remain in recession or have flat-lined despite years spent in crisis-fighting mode. New data Thursday showed that economic output in Europe fell more sharply than analysts expected at the end of last year, with gross domestic product in the 17-nation euro zone declining 0.6 percent in the last three months of 2012, compared with the prior period. Growth in Britain was zero percent, while Japan’s economy contracted 0.4 percent at the end of the year.
This stagnation follows a historic run in which $5.5 trillion has flowed into the global economy from central banks in the United States, Japan, Britain and the euro zone. “This is a very unique situation, and we cannot exclude that we are overtreating the patient,” said Domenico Lombardi, a former Italian board member of the International Monetary Fund and now an analyst at the Brookings Institution. “There has been huge liquidity pumped into the system, but only a fraction translates” into economic support for businesses and households in those economies.
“Each successive effort at quantitative easing has had diminished returns. There are limits, and we are probably at the threshold” where more central bank action could do more harm than good to the global economy, said Timothy Adams, managing director for the Institute of International Finance, a trade group representing the world’s major financial institutions.
The paradox of a cheap money/ slow growth world will be at the center of talks this week in Moscow among finance and central bank officials from the Group of 20.
With all of the major economies struggling to grow, the rest of the world has become concerned about dwindling options. Many of the traditional crisis-fighting tools are off limits. Governments already have high levels of debt, making officials hesitant to borrow and spend in hopes of boosting jobs and growth. Structural changes to economies in Europe, Japan and the United States could take years to fully understand and longer to address. Interest rates — the traditional means for central banks to speed or slow the economy — are already near zero, leaving no room to cut further.
That has left central banks to rely on a variety of methods to try to boost economic growth, by, in essence, making money and loans easier to get.
Major currencies such as the dollar, euro and yen, however, don’t stay at home. They circulate around the world as the fuel for the international monetary system. Developing nations in particular argue that the policies pursued in Washington, Tokyo and elsewhere are driving up prices in other markets, making stocks and real estate more expensive, increasing the value of local currencies and perhaps setting the stage for another round of problems if the process gets out of hand.
The money is also being stashed in lower-return investments by pension funds, stockpiled on corporate balance sheets or held by sovereign wealth funds and national treasuries that are often limited by law in how they can use it — a fact that a group of top economic policy officials recently cited as a threat to the world’s ability to finance long-term projects.
What all that money isn’t doing — at least to the extent hoped — is flow into infrastructure, business investment or other productive activity. With few exceptions, such as Australia and Germany, developed economies have not made up for the economic potential lost in the 2008 crisis and the subsequent euro-zone financial meltdown. Recent Standard & Poor’s reports, for example, noted that corporations were raising plenty of money by selling bonds on capital markets but were underspending on actual capital investment. S&P managing director Diane Vazza said the companies were using most of the money to restructure existing debt or stockpile cash while interest rates are low.
Proposed actions by the new Japanese government have been of particular concern, and by some accounts are edging toward a red line that all major nations have said they would not cross: an intentional currency devaluation meant to boost exports by making them comparatively cheaper.
The concept of competitive devaluation is at the heart of worries about a “currency war” — a trade war fought through monetary policy rather than tariff and other trade-based protectionist tactics. French President Francois Hollande practically endorsed the idea last week when he said the European Central Bank should not let the value of the euro be decided by the “mood of the market.” The euro has been moving steadily higher at a time when France and other euro nations are desperate to boost exports.
The Group of Seven major industrialized nations took the issue so seriously that it issued a statement Tuesday meant to hold Japan in check — and try to convince emerging powers such as Brazil and China that they weren’t engaged in their own form of currency manipulation. The statement, endorsed by Japan as a member of the group, pledged to let exchange rates be set on the open market and said that central bank and other policies would be “oriented towards meeting our respective domestic objectives using domestic instruments.” There had been discussion in Japan about using yen to purchase foreign assets, a step that would be considered an aggressive move to sway the value of the Japanese currency.
Although there may be international fallout in terms of changing currency values, that’s an unintended consequence of policies that, officials argue, ultimately help the rest of the world by keeping the United States out of a recession or putting a floor under the weakened euro system.
The IMF, charged by the G-20 with looking at how policies in different nations affect the global system, has so far remained on the side of the major central banks — agreeing that their policies have been justified by weak domestic conditions and have so far done more good than harm in the world as a whole.
But there’s also a recognition that the results are unimpressive in terms of growth, while pushing the world into uncharted territory.
The IMF has begun an extensive line of research on global liquidity conditions in an effort to better unravel how monetary easing in one nation, for example, affects economic conditions both at home and elsewhere.
“Liquidity” is a concept broader than cash or a nation’s money supply. It includes the overall ability and willingness of financial firms to borrow and lend — something that can be shaped by factors as general as the state of the global economy, and as specific as the rules a central bank sets for loans it makes to financial institutions.
One broad finding: Liquidity among the top economies – the United States, the euro zone, Britain and Japan — has largely recovered since the onset of the 2008 financial crisis. Money, in other words, isn’t the problem.
But beyond that, the fund acknowledged, the state of current economic research and understanding does not say much about how global supplies of liquidity should be managed, or how they interact with national economies.
“There is no theoretical framework to determine an optimal level of global liquidity, nor do we know how global liquidity should behave to promote sound, sustainable global growth with financial stability,” fund researchers concluded.