Like Atlas holding up the Earth, central banks are holding up the financial market. Very few people give it a thought, even though it is paramount for determining the future of our economies. We had previously written about this last year (Are Central Banks Starting to Nationalise the Economy?). It is important we get back to this subject because new data confirms this peculiarity: according to Goldman Sachs, central banks now hold a full third of the world’s bond market!
We often hear that markets are prey to speculators, but in fact, central banks are taking up more and more room. And central banks are just an arm of the State, even though they try to show some kind of independence from governments. “Unbridled capitalism” has become more and more a tale, and the notion of free market is becoming more and more diluted.
So, according to Goldman Sachs, of the 54 billion dollars of bonds (sovereign and private) traded in the world, central banks hold $18 billion, a third exactly (33%). They have even surpassed the hedge funds (28%), demonised by the media for their brand of capitalism... With their printing presses (QE) these institutions have much more firepower than the traditional participants... all systems go... rampant collectivisation! And all this printed money finds its way to the stock markets, pushing them higher (that is, if they don’t buy stocks directly, like Bank of Japan).
Obviously, bonds wouldn’t be priced this high in the world if it weren’t for that colossal intervention but, after all, this is the objective of the central banks, since they want to keep interest rates as low as possible (low bond rate = high bond price). Now they want to “normalise” their monetary policies, which implies stopping QEs, selling those $18 billion worth of bonds, and being ready for a significant rise of interest rates. Nobody in his right mind thinks that this would not provoke a major financial crisis... Central banks are stuck between a rock and a hard place.
Mario Drahi, head of the European Central Bank, has announced a plan to stop QE in December... but leaving the door opened to continue if necessary. This is not very clear, even though we’re talking about 60 billion euro created each month to acquire sovereign and corporate bonds in the euro zone! But stopping the flow of liquidity and pushing rates higher would put the banking sector, already under much pressure in several countries, in jeopardy. Let’s not even mention Cyprus and Greece, where banks are under artificial respiration, but remember that Italy and Spain (countries with systemic importance) are still not out of the 2008 crisis. Bad loans are putting financial institutions in jeopardy, and last minute solutions are put in place to avoid bankruptcies (Santander buying Banco Popular for a symbolic euro in Spain, recapitalisation attempts with Monte Paschi in Italy, bailing out of several institutions).
Central banks have become such major key players that, were they to return to the more modest and limited situation prior to 2008, it would provoke a major crisis. We are condemned to support the central banks’ omnipotence, just like Atlas was condemned by Zeus to hold up the Earth. And when the bond planet escapes those who are supposed to hold it, it shall be a new form of Deluge...
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Philippe Herlin Finance Researcher / Doctor in Economics
Philippe Herlin is a researcher in finance and a doctor in economics of the Conservatoire National des Arts et Métiers in Paris. A proponent of extreme-risk thinkers like Benoît Mandelbrot and Nassim Taleb, and of the Austrian School of Economics, he will be bringing his own views on the actual crisis, the Eurozone, the public debts and the banking system. Having written a book on gold that has become a reference (L’or, un placement d’avenir, Eyrolles 2012), he wishes to see gold play a growing role in our economies, all the way to its full re-monetization.