Since the 2008 bloodbath, caused by greedy bankers and myopic regulators, a lot has changed, except for the ignorance of our decision-makers across the globe. Huge deficit spending, ZIRP (“zero interest rate policy”), the recent rolling back of vital regulations, and a trade war have caused havoc in economies across the globe behind those pretty numbers we are shown. Is the novel invention, QE (quantitative easing) something different?

This article will focus specifically on the US and its Federal Reserve because the dollar is the world's reserve currency since the Bretton Woods Agreement in 1944. The next two paragraphs will briefly explain quantitative easing.

In a fiat currency, governments have the power to manipulate the currency supply or velocity to boost or slow economic growth. Before the sub-prime mortgage crisis of 2008, this system was based on interest rates.

-          The Fed (Federal Reserve) would cut the nominal base rate (interest charged on commercial banks for loans) if they want to boost the economy and to reach their 2% inflation target. A lower base rate would encourage the banks to loan more from the central bank and lend it out to the consumer who wants to get hold of cheap money. This increases spending by consumers, increasing inflation to the 2% target by an increase in velocity. This is also known as an expansionary policy

-          A contractionary policy is if the Fed wants to slow down the economy from creating unnecessary bubbles. For this, they will raise the base rate. Banks would be less encouraged to borrow, as would the average consumer.

During the 2008 crisis, the Fed decided to cut interest rates to near zero, so they couldn’t lower it anymore to further stimulate the economy. This left policymakers no other choice but to pump money into the system via quantitative easing. It also had the benefit that toxic assets such as mortgage-backed securities could be bought off the market.

To understand the impacts of quantitative easing, we must first understand what it is. It is a Keynesian theory and is another way for central banks to manipulate the economy. It buys assets, mostly government bonds from the primary banks. This should in a good scenario and the eyes of the central banks have two advantages.

-          With an increase in demand for government bonds, their prices would increase, driving down their yield. Central banks assume that lower yields would result in higher consumer spending and investment because the return from the bonds are lower. There is a crucial flaw in this argument, which I will get to later.

-          The second “advantage” that QE has is that in return for the sold bonds, banks get currency which the Fed digitally create out of thin air. Banks can therefore lend out more to the consumer to spend, or with which companies can expand and hire new workers. These extra wages would potentially further boost the economy.

The loans that the PDCF (Primary Dealer Credit Facility) would dish out would also increase the amount of dollar-denominated credit, lowering the value of the dollar. As paradoxical as it sounds, a weaker dollar is advantageous for the US. It increases exports and makes foreign investments into the US more attractive. An example of this would be the 30% increase in the S&P in 2013 during QE3, where $85 billion worth of assets were purchased.

It all sounds too good to be true, doesn’t it? Indeed, it is.

The flaws of these arguments are complex. As financial institutions receive their newly created money or borrow it from primary dealers, instead of lending it out to the average consumer, they invest it into different markets as they tend to be higher yielding than loans and RISK-FREE. Risk-Free? Yes, the Fed has signalled to the investor that they have a put on the stock market. The Fed has always lowered rates and injected more money into the repo market or increased monthly QE purchases when the markets slowed down. This made the stock market surge to new heights, as long as the Fed kept up the injection of liquidity.

Companies also stopped investing in productivity but rather into the stock market. With less income from companies, the average consumer would be reluctant to take on debt. This causes only 8-9% of the injected liquidity to reach the average consumer, which is where the second argument also falls apart.

I made a visual representation to make this easier to understand. Green arrows indicate the flow of money. The red arrows show what the entities want to buy.

As you can see above, QE causes many entities to buy assets, artificially inflating those financial markets creating an 'everything bubble'. This is very dangerous because as soon as the Fed cannot keep up with the liquidity demand, or a global catastrophe such as the coronavirus pops that bubble, we will witness something far greater than even the 2008 meltdown.

Another consequence of rising asset prices is that it creates and exacerbates wealth inequality, one of the most pressing issues in society in this generation. Those who possess those assets will see their net worth skyrocket, while the working class must watch how their employers jump on the bandwagon. The Bank of England even admitted this:               “Of course, higher asset prices will make some people better off”.

The following disturbing image was taken from CNBC’s show 'Mad Money', hosted by Jim Cramer, after the Fed announced their 2.3 trillion-dollar stimulus package on April 9th amid the Covid-19 crisis. It highlights the huge discrepancies between the 'real' and 'financial' economy.

You must be asking yourself, when will the Fed stop this destructive policy? They can't. Excess liquidity for a prolonged period causes a dependency on that liquidity. If the excessive liquidity suddenly cuts off, something called the 'liquidity trap' develops. This is like the withdrawal symptoms of a cocaine addict, except for that the cocaine is the newly created, legally counterfeited currency by the Fed, and the addicts are the financial institutions. The graph below clearly shows a positive correlation between the Fed's balance sheet and the S&P 500 (with the exception of the Covid-19 crash in March 2020).

In 2018, the Fed constructed a plan to carefully reduce its balance sheet. The fear caused by 'Quantitative Tightening' caused a bear market with the market reaching its bottom on Christmas day. In response to the repo turmoil of September, the Fed decided that it was necessary to implement QE4, even though they were too ashamed to call it that way.

The Covid-19 crisis has brought QE to a new dimension. Not only is the Fed able to buy student loans, car loans or any other loans, but they have churned up their currency production to 600 billion PER WEEK and inflating their balance sheet to over 6 trillion (as of April 8th). It is important to understand that this number will change as the virus panic settles down, but it shows to what extent they want to go, to kick the can down the road, so that the imminent collapse doesn’t happen on their watch. Fully aware, of course, that the longer they wait, the more catastrophic the outcome.

Will the increased currency supply from QE directly cause hyperinflation? The short answer is no. Technological innovations pushing down costs of consumer goods in combination with the small percentage of liquidity (≈ 8-9%) reaching the real economy will cause inflation rates to be stable. What it will cause is a societal spit between the 'haves' and the 'have-nots'.

Strong signs of populism as a result of this have shown across the globe, whether it is Donald Trump and Jair Bolsonaro's victory in presidential elections or Brexit. In response, the left side of the political spectrum, candidates like Bernie Sanders, Jeremy Corbyn or AOC have gained huge momentum. Their policies, although not directly caused by QE, would cause huge economic meltdowns to the point that MMT (helicopter money as Austrian economists would call it) would be inevitable. This, in turn, would undoubtedly lead the world into hyperinflation, which will not only cause the value of Gold and crypto currencies to skyrocket, but it also must be followed by a complete reshuffle in the global monetary system and put an end to this fraudulent fiat currency scheme.