Central Bank Balance Sheets and Asset Prices
The divergence in G-3 monetary policies took more definite shape in October. The Fed ended QE3 with a final $15 billion purchase of securities, while the ECB has bought some €4.8 billion in covered bonds during the first two weeks of its program. Most spectacular was the BoJ announcement on October 31 to increase Japan’s monetary base from ¥60-70 trillion a year to ¥80 trillion annually by stepping up the buying of longer-term JGBs and a wider range of private-sector securities.
Given the zero bound on nominal interest rates, the generous injections of central bank liquidity have served primarily to lift asset values, mainly in equity, bond and to a lesser extent, real estate markets. The resulting wealth effect, although modest relative to the scale of liquidity injection and distributed very unevenly across the household sector—has been a key source of support for the economic recovery.
Since the impact of liquidity injection varies considerably among the G-3, it is important to assess the implications of diverging changes in relative balance sheet sizes for asset markets and economic growth going forward.