Evercore Pan Asset

World share markets have rallied strongly. Fears of a double dip recession have receded. Many now expect a second round of quantitative easing in the USA, and maybe in the UK as well.  Market participants reckon the main authorities of the world are putting some floor under global markets, believing that either there will be a decent recovery, or that the authorities will have to take additional stimulatory action. 
 
Another phase of money expansion seems likely in the USA. The President is worried about the electoral prospects of his Democrat party in the mid-term elections, so he is keen to talk up the idea of monetary activism. The Fed sees little inflation, unemployment is still high and house prices weak. Interest rates are as low as they can go, and if the Republicans do well in the Congressional elections there is unlikely to be more fiscal stimulus through extra spending. 

Is QE II likely to be the answer? The main reason previous rounds of quantitative easing on both sides of the Atlantic have not been more inflationary and added more stimulus to the economies is likely to have been the inability of the commercial banks to lend enough of the extra money on. In both the USA and the UK consumers borrowed too much in the good times up to 2007. In both countries consumers now think they need to save more or borrow less. In both jurisdictions some banks became grossly overstretched. Banks generally are now being made to slim their balance sheets or raise more cash and capital to support their lending. This prevents them from lending more. 
 
Quantitative easing can still make sense for an individual country, if that country wishes to devalue. Printing more money may well lower its foreign value. We are witnessing a round of attempted competitive devaluations, where QE may be part of the weaponry. The dollar has weakened against the Euro, and also against the pound and even the yen recently as a result. 

The danger for investors is to be lulled into a false sense of security by the lullaby that the authorities will print what it takes to get prosperity back. The west has to struggle to get back to decent growth. It has to tackle the private sector debt mountain built in the good times, and start to tackle the enormous public sector debt mountain added to during the slump. It has to find a way of exporting to the successful economies of the world, who are still reluctant to import more and export less themselves.
 
Printing money can help raise asset prices, and some may filter out into the real world. It is important, however, not to get carried away. In the end printing money is inflationary if enough of it escapes. If it merely stays within banks and the public sector it does not power much of an economic recovery. 
 
Successful economic management from here would turn attention to regulating banks’ cash and capital in a way which allowed enough new lending  to get things growing more quickly, without releasing so much of the extra money that it proved too inflationary. This is a judgement integrated Central banks who are also commercial bank regulators need to make, but seem to find very difficult for the time being in the west.
 
That is why people remain apprehensive about growth rates, and why investors need to become more cautious as markets rise. Euroland continues to be less adventurous with QE and money policy. The short term consequence of this has been to drive the Euro up against the dollar and pound, adding to the difficulties of countries like Greece, Ireland and Portugal to make the economic adjustments they need to make. I fear the troubles in Euroland are not yet over. 
 
Money creation may help raise asset prices, but in the end assets only stay up if companies develop the earning and dividend power to justify the ratings, and if rents rise to underpin property values. Asia has to show us it can slow down its economies and control inflation without diving too low. The west needs to show it can grow faster whilst still tackling the inherited debt overhang that so dominates the bigger picture.

As published in Investment Week