Monetary and fiscal policy-makers around the world are taking different approaches to tackling the current economic crisis, but their actions today will pose challenges down the road, says Erik Weisman, chief economist at MFS Investment Management.
Looking at combined monetary and fiscal policy responses, the U.S. is likely the most aggressive, while Europe and Japan are lagging behind.
It’s also interesting to observe how some central banks have drawn a line in the sand, he adds, noting many don’t want to go into negative interest rate territory or buy up equities. “We know that the Bank of Japan has bought an awful lot of equity [exchange-traded funds] and it looks like they’re going to continue to do that — . . . that’s a little bit of a dangerous game.”
But other central banks don’t want to take that route. They believe if they can heal credit markets, equity markets should follow. “The problem is, at some point, some of these central banks may feel like they’re running out of some things to buy,” says Weisman. “They don’t want to own too much of any given credit market or sovereign bond market and then they may be left with very few options.”
If Japan had other options, it’s likely it would have used those before buying equity ETFs, he adds.
Ultimately, the central banks are engaging in activity they weren’t designed for, he says. “They’re all engaged in quasi-fiscal policy, which you could argue is not something they should be doing — and if they’re doing something that’s quasi-fiscal, the fiscal authorities should be doing that. And muddying those lines, perhaps, will become problematic down the road when we want to believe in the independence of monetary policy to do the right thing on the other side of this.”
After the crisis, Weisman believes central banks will do what they can to facilitate low nominal yields. If yields are to rise, debt would become uncontrollable very quickly, he notes. Further, banks are likely to engage in yield curve control to prevent yields from rising. As a result, he urges investors not to be concerned about rising yields causing a hit on their bond holdings.
However, low yields will post challenges for pension funds in the longer term. “If you have promised your clients a seven per cent return, how do you get a seven per cent return if 10-year yields are at 60 basis points? [That’s] not easy to do unless you want to do things that pension funds and insurance companies probably ought not to do, which is a lot of leverage.”
Alternatives are one solution for those seeking higher returns, says Weisman, noting another option is to go out the curve and try to pick up more yield and find countries that offer more yield but are relatively safe. “There are no easy answers as to how you get that significantly higher yield when your starting yields are so low.”