Qe2 could be the start of a new £200bn wave

17 October 2011 8:00 am | By Gregor Watt

Some investment managers are asking whether last week’s move by the Bank of England for a new £75bn round of quantitative easing move is enough to make a difference to the economy.

The QE extension takes the total amount of money injected into the economy to £275m. The new funds are to be used to buy existing gilts, with durations from three to more than 25 years, from UK banks over the next four months.

The bank’s move was well received after the announcement on Thursday last week. UK equities continued the rally started earlier in the day to finish up by 3.7 per cent, following a similar increase the previous day.

But questions have been asked about the bank’s actions in the longer term.

Fidelity strategic bond fund manager Ian Spreadbury says: “The Bank of England’s announcement that it will increase asset purchases by £75bn may have happened sooner than expected but it should come as no surprise. The central bank is faced with a dilemma. Austerity measures designed to cut the UK’s budget deficit may have dampened UK growth and low growth levels could reduce the amount of taxation revenue raised, further hampering the Government’s plans for aggressive deficit reduction.

“Although this additional stimulus will certainly be welcomed by markets, there is still a risk that above-tar-get inflation could become entrenched. Even if uncertainty keeps gilt yields under-pinned at the ultra low levels, I am nervous that, at some point, investors may question the British Government’s ability to manage their finances. In response to this risk, I have begun to reduce my duration position.”

Cheviot Asset Management partner David Miller has also expressed frustration with the move, saying it may keep bank interest rates low but will do very little to increase the supply of money to those who need it.

Miller says: “A new round of quantitative easing will not hurt but it is hardly revolutionary. It will help to sustain low interest rates but it will not do much to improve the conditions for commercial borrowers. A more effective form of intervention would be direct help for businesses needing to borrow. Still, it is good to see that QE2 has set sail at last, even if nobody is sure where it will end up.”

Iveagh Private Investment House chief investment officer Chris Wyllie is another investment manager who was unsurprised by the resumption of QE, but he says the scale of the new initiative was surprising.

He says: “We are not surprised by the BoE’s move as it was well flagged but increasing the existing QE programme by such a large sum (more than a third) is bold. The bank has ventured where the Fed feared to tread, pumping more money into the British economy while current inflation is elevated. The UK money supply is more constricted than in the US, which probably persuaded the bank they could get away with it. This will be an interesting case study for the debate on whether QE, as a policy, is now running into the law of diminishing returns.”

But Wyllie is another who says the lack of any initiatives to get money into the wider economy and says: “It is disappointing that we have not yet heard of more direct measures to get cheaper money through to the corporate sector and we expect the pound to weaken in light of the bank’s actions.”

Schroders European economist Azad Zangana says one reason the Bank of England has moved forward the timetable for more QE is the downward revision of UK economic growth figures by the ONS.

Zangana says: “The Bank of England has moved quickly to restart quantitative easing as fears mount of a double-dip recession. ONS figures show that the recession has been deeper than previously estimated while growth in recent quarters has also been revised down. In addition, the Bank of England is clearly concerned by the crisis engulfing the eurozone - the UK’s biggest export region.

“The restarting of quantitative easing will boost confidence and asset prices in financial markets but we remain sceptical over its power to restart lending, and therefore have a meaningful impact on the real economy. Where QE might have an impact is on sterling. If the purchases of assets leads to a depreciation in sterling, then this could boost demand for UK exports. However, this would also raise inflation for households, who are already struggling to make ends meet.

“Given our scepticism on the impact of QE, we would not be surprised if the Bank of England is forced to announce even more QE in February 2012, as the latest programme comes to an end.”

Ignis Asset Management chief economist Stuart Thomson also thinks we will see more QE early in 2012 and says the second round of QE could match the £200bn injected into the economy in the first round.

Thomson says: “The fourmonth programme and dismal economic outlook virtually guarantees another round in February, where we believe that the MPC will agree another £75bn with the eventual size of the programme matching QE1’s £200bn. This is consistent with the bank’s own review of QE1, which noted that size matters and the announcement effect produced a cumulative decline in spot gilt yields of 100bps.”

Despite the huge volume of money involved in quantitative easing, Thomson says we should not expect the latest cash injection to work miracles.

He says: “We do not believe there will be a swift return to pre-credit crunch growth. Indeed, we believe that the UK economy will experience a decade of lost growth, with real activity averaging just 1 per cent as the economy deleverages. The role of QE2 and its inevitable successors will be to offset the simultaneous deleveraging of the consumer, financial and government sectors.

“We believe that the central bank will succeed in preventing the tail risks for growth but it will not be able to ensure strong, self-sustaining growth.”

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