Quantative Easing made easy
Published on June 8, 2011
Quantative easing – or QE, as it is known – is a monetary policy tactic used by Governments and central banks to stimulate the economy. It’s a way of creating and pumping money into a failing financial system. Why would they do that? So that banks and credit companies can continue to lend money to you, the consumer.
There’s only so many houses to buy but the amount of cash is increasing so in simpler terms, when QE takes place the value of our money is diluted and gradually, it becomes worthless.
We all know that our economy is flagging – it’s becoming stagnant. So QE is all about propping up a dead horse. QE1 happened in England in the spring of 2009 and you heard about it because it was in the news. QE2, the second round of borrowing, may have passed you by but it happened in the winter of 2010. And just so you don’t miss the next round, QE3, I can give you the provisional start date – 2nd August, 2011. And you read it here first.
If you want to get technical, the Bank of England creates the cash and buys Government bonds with it. It’s a loan agreement, with interest, and the bond is given as surety. The Government gets the money but then has to buy back the bond at a certain date at a certain price. So the Bank of England creates some money and lends it to the Government at interest. The Government then gives that cash to other banks to bail them out - at no interest - so that they can lend it to you. At interest. This is not a good deal for the Governement and it’s not a good deal for you either because you are the surety for the debt – yes you, dear reader, are liable.
How can I be so sure about the 2nd of August? Well it’s all to do with the amount of debt that the USA is carrying and the fact that they’ve maxed out their credit cards. Their parliament – Congress – passed a bill saying that the USA could not borrow over and above a certain limit and unfortunately that ceiling, or ‘cap’, was hit on May 16th, 2011. The figure? 14.294 trillion US dollars. That’s $14,293,975,000,000 in old money. Their borrowing agreement has been re-negotiated and the ‘cap’ has been raised 74 times since 1962. The first borrowing agreement/contract was in 1917 for a measly 11.5 million dollars. Dig, dig, dig...
The challenge the US faces is that one of two things has to happen. Either (i) Congress agrees to borrow more money ("when you find yourself in a hole...") or (ii) America will default on its loan repayments.
But why does this bother us here in England? The old rule of “when America sneezes England catches a cold” applies because you are now part of a globalised economy. What bothers them, bothers us and you are part of the ‘us’ group.
So, either a) the USA can reduce spending or b) they can increase borrowing or c) they can acknowledge their situation and default. Either way, the tipping point happens on the 2nd of August, 2011. And as our economies are so closely linked, our taxes will increase (fuel, tobacco, alcohol etc) and spending will decrease too. In case you didn’t notice, on 26th May 2010, The Scotsman published an article quoting the Prime Minister stating we have "...an economy that's nearly bankrupt, a society that's broken and a political system that is bust".
Quick question. What happens if you don’t keep up the payments on your house, car, TV or anything else that you’ve got on credit? Answer – it gets repossessed by those who you owe the money to because they own it, not you. Well exactly the same is going to happen to the good old US of A.
Is it really that bad? That the US has to borrow money to pay the repayments on the existing debt? They’re borrowing to pay a debt? Yep, it’s that bad and if you don’t believe me then read this on the BBC website or this on the Daily Telegraph website. There is actually a website dedicated to the amount of US debt!
Moody’s, the credit rating agency has said that as average spending (minus interest) outpaces the US income by about $118 billion a month and as it won’t be able to pay all the country's bills, the USA will lose their AAA credit rating. And that’s when the dominoes start to fall.
So how can you defend yourself from the fall out and how could you possibly profit from this situation? By taking yourself out of the loop – it really is that simple.
Intelligent investing
David Peers
Partner
Point to note – I am a bullion dealer. I do this for a living. What is written here is for your education and should not be taken as ‘advice’. If you act then take some responsibility for your actions.
The Daily Telegraph
The BBC
US Debt Clock
The Scotsman
