The Reserve Bank of Australia (RBA) has embarked on a significant quantitative easing program since the COVID-19 pandemic began. However, the risks of inflation getting out of control as a result of this quantitative easing program are not as pronounced as some may think.
Setting the scene
For over a decade, central banks have embarked on quantitative easing or asset purchase programs, spurred on from the Global Financial Crisis (GFC). During this period, we have had high levels of money supply growth, which is what occurs when a central bank buys different types of assets (frequently government bonds).At the same time, we have had very low inflation around the world, driven by a number of factors. One of the reasons is globalisation, which has put downward pressure on global prices.
Here we are again, due to the COVID-19 pandemic, with a huge increase in quantitative easing from central banks worldwide. 2020 has well and truly proven that the central banks are not out of ammunition in this respect. In fact, they have created new ways to stimulate economies, through purchasing different types of assets, or extending the types of programmes they embark on. At the same time, there’s been a huge increase in government stimulus payments around the world in developed markets.
So, why the worry?
As a result of COVID-19 measures and support from the RBA, there is concern that the combination of quantitative easing and government stimulus might work to create very high inflation – and potentially hyperinflation in a post-COVID environment.
First, I think it is a risk to consider more for the medium to longer term, rather than immediately post-pandemic. In the short term, these quantitative easing measures were necessary to deal with the severe blow served to economies worldwide. With the exception of China, developed nations are a long way off reaching their pre-COVID levels of growth. We don’t expect the majority of developed countries to return to these levels at least until the second half of the year, though it does vary from country to country (again, note China is already back to its pre-COVID levels of GDP), which means a period of spare capacity is being generated in the economy, where weak inflation will continue.
In the medium term if we continue to see that government stimulus is quite high, along with monetary support, at a time when the global economy continues to recover, this could create some higher inflation risks. However, we believe that governments will balance these risks and start to withdraw some of this stimulus as economies get stronger and restrictions on mobility and certain sectors start to ease.
Although high money supply growth can put upward pressure on asset price inflation, this is not necessarily consumer inflation – it’s important not to conflate the two. In short, quantitative easing leading to unmanageably high inflation is not necessarily a sure thing or big risk in developed economies for now, given the big deflationary shock that resulted from COVID-19.
It’s worth noting that the levels of stimulus and central bank support we have seen worldwide has worked to stave off a depression, which was one concern when the pandemic first began. Rather, the support has helped keep developed economies in a relatively short recession, with many markets starting to report growth in the September quarter of 2020.
Diana Mousina answered some of 2020’s biggest questions in this video, where you can learn more.
Subscribe to SMSF News using the form below to receive all of my articlesDiana Mousina, Economist - Investment Strategy & Dynamic Markets
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