Investments  

How does QE help the coronavirus problem?

  • Describe the significance of QE
  • Explain the Bank of England's actions towards corporate bonds
  • Describe stagflation
CPD
Approx.30min

In its statement announcing the quantitative easing plan, the Bank of England stated it is in response to “an economic shock that could be sharp and large but should be temporary.”

Impact of QE in the economy

David Jane, who jointly runs a range of four multi-asset funds at Premier Miton Investors, is generally more sceptical of the potential positive impact of QE on the real economy.

He says the effectiveness or otherwise of the government’s own spending plans will determine the overall impact.

Mr Jane says: “It doesn’t matter how much interest rates and QE they do - unless the market can really get an understanding of the profit impact from the virus, and which companies will survive, it's difficult to see equities really motoring.

"Individual stocks may find levels and rally but the index as a whole require more certainty.  

"QE is ineffective now as markets are deleveraging as the external shock is too great.

"The market has been unconvinced by recent QE-type measures, simply because they cannot change the reality of the economic disruption we are dealing with. 

"When the financial crisis and then the eurozone crisis hit, these were financial issues and could be solved by financial means.

"The current situation is in the real economy, and while ample liquidity is a necessary condition for stabilisation it is insufficient on its own.”

He added that he did not think QE will lead to a fall in the value of the dollar, as the dollar is a safe haven asset class at times of market strife. 

Mr Kamal agreed: "Strength in the US dollar during times of global stress is a well-known phenomenon.

"QE from the Fed won’t reverse that, especially as monetary loosening is being conducted en masse by all major central banks.

"As a result, dollar strength is likely to reverse only when there is some stabilisation in markets, which is dependent on better news regarding viral transmission and infection figures, not just stimulus."

The "wealth effect"

The reason many policymakers link the overall health of the economy to the performance of asset prices is called the “wealth effect”.

It works on the premise that if people see the value of assets they have, whether it be their house, their Isa, or their pension pot, rise in value, they then feel more confident about their economic prospects, and so are more inclined to spend more in the real economy.

That boosts short-term growth in the real economy. 

The logical conclusion of a policy of printing vast quantities of extra cash and pumping it into the system at the same time that governments are ramping up spending is that inflation will follow suit.