2024-09-08 03:40:00
Less money, more problems. Central banks may have inadvertently contributed to the August 5 global equity mini-crash by withdrawing $200 billion in cash from the global system in the preceding days. Those responsible for setting rates had their reasons for doing so, but there is a risk that the liquidity traps of the markets will arise again.
Poor US economic data and debt-based margin calls on bets against the Japanese yen have taken the blame for a brief but sharp decline in global stock markets. But something else was happening in the background.
US Federal Reserve Chairman Jay Powell and his colleagues use injections or withdrawals of “reserves” – or money they create – to control interest rates, meet the money needs of banks, and generally grease the wheels of global finance. Quantitative mitigation programs are examples of these processes. They consist of creating reserves, increasing the amount of money in the financial system. The reverse process, now widespread, known as quantitative easing, is to destroy that liquidity.
The day before the August 5 crash, the US Federal Reserve, the European Central Bank, the Swiss National Bank, the Bank of Japan and the People’s Bank of China withdrew more than $200 billion from the global financial system, according to an analysis by Matt. King of Satori Insights. Just hours later, stock markets around the world collapsed: Japan’s Topix index lost 12% in one day, while the S&P 500 index closed down 3%.
Each central bank has different goals, so the move is likely to have been random and uncoordinated. But the lack of liquidity could worsen the plight of investors who have been struggling to raise money to meet collateral margins. At the very least, the incident highlights the vulnerability of stock markets to the other issue of secrecy surrounding the management of the central bank’s balance sheet.
It’s true that it’s not a perfect relationship. The markets didn’t tank the last time interest rate makers withdrew an unusually large amount of money from the system, in April. And a broader measure of liquidity compiled by CrossBorder Capital, which also includes credit markets and private sector bonds, showed no red flags in early August.
Still, two factors suggest that weakness may be coming. The first is the size of central banks’ balance sheets, which have grown exponentially since the Fed and others bailed out the financial system in the 2008 crisis. Until then, they had assets worth $870 billion. Now he has 7.1 billion. The second is the desire of investors to follow market trends. Over the past decade, this style of “momentum investing” has been the second best strategy in the world, according to MSCI. This has resulted in increased concentration in sectors and stocks that are in high demand, increasing losses when trends reverse.
Since 2008, central banks have repeatedly come to the rescue amid market panics. Recent evidence suggests that they may cause them.
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