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World liquidity gets mopped up, but no "shock"

Written by: Staff

WASHINGTON, Mar 3 (Reuters) The world's ''Big Three'' central banks finally look to be moving in sync to restrict years of super-easy credit, but experts say don't hold your breath for a sudden impact on the global economy.

Economists seeking elusive measures of so-called ''global liquidity'' -- or loosely the excess cash and deposits available for investment in global markets -- reckon money sloshing around the world is still growing sharply despite the parallel, if uncoordinated, central bank action taken so far.

''It may seem obvious that global liquidity must be slowing and set to slow further,'' said Mike Buchanan, global economist at Goldman Sachs. But ''the measure of liquidity that seems most correlated with a number of asset prices is actually rising.'' The European Central Bank on Thursday pushed up its key short-term interest rate for the second time in three months, bringing current rates to a three-year high of 2.5 per cent.

The Bank of Japan is also expected, as soon as this month, to end years of an ultra-loose monetary policy of pumping cash into its banks and pinning market interest rates at zero.

And both moves come against a backdrop of continued tightening by the U.S. Federal Reserve, which has raised its short-term interest rates 14 times in a little over 18 months to 4.5 per cent from record lows of 1.00 per cent in June 2004.

Although financial markets wobbled on the news of the ECB rate rise, with long-term U.S. and European government borrowing rates pushing higher, the overall market impact of the moves to limit borrowing has been limited.

And, at least partly as a result of persistently favorable conditions in bond and equity markets, the world economy continues to grow at a robust pace, as evidenced by surveys on Wednesday showing the fastest expansion of global manufacturing in 18 months in February.

WATCH ECB, NOT BOJ Goldman's Buchanan said the most recent data shows his favored measure of global liquidity, which he defines as an excess of credit growth in the top six world economies over the nominal gross domestic product growth, is growing at over 3 per cent - the highest since the middle of 2003.

Critically, he said that just as this liquidity measure finally began to slow in the United States late last year after 12 months of Fed tightening, it began to boom in Europe.

The 6.0 per cent liquidity growth currently being recorded in Europe's 12-nation single currency area is almost twice the the 3.1 per cent rate being seen stateside.

''The swing from the U.S. to Euroland as a provider of liquidity is particularly dramatic,'' said Buchanan, adding that the end of quantitative easing in Japan will arguably be less significant than ongoing ECB action.

''The Japanese credit growth is likely to accelerate even if the Bank of Japan starts to move away from zero interest rates as the balance sheets of the banks and their potential borrowers improve,'' Buchanan said.

Markets have been jittery for weeks as BoJ officials flagged their intention to soon end quantitative easing.

The main concern is that so-called ''carry trades'', where cheap yen borrowing is used to fund higher-yielding investments elsewhere in the world, may ease up and see a drain on relatively risky investments such as emerging markets.

But many economists say the Japanese move has been so-well signaled in advance that it is hard to imagine a major hiatus in investor behaviour just on the announcement itself.

And others say the seemingly synced central bank action in all three regions is more than justified by robust economic data, particularly now with the strong recovery in Japan's domestic economy and manufacturing and credit growth acceleration in the euro zone too.

''In some sense the risk the central banks run is they are coming in a little too late,'' said David Hensley, director of global economic coordination at JP Morgan.

''If you look at global resource utilisation, it's where it was in the late 1990s -- near the end of a very long global expansion,'' he said. ''Yet, real policy interest rates outside the U.S. are over a percentage point below where they were back then. That's a recipe for trouble.'' ''At the very least, it's a very clear way of looking at why these central banks are normalising rates.'' REUTERS SD SSC1358

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