Vigour of global capital market in doubt as liquidity falls off

Christine Lagarde

Davos – The global capital market, having been spoiled over the years by ample liquidity, may be put to the test with the US Federal Reserve’s tapering of quantitative easing (QE) measures.

Global business elites and government officials, pooling wisdom at this year’s World Economic Forum (WEF) in the Swiss town of Davos, say they are looking for a new stabiliser in a market with perhaps less mobility, while financial products pegged to the Chinese currency Renminbi (RMB) inch closer to the limelight.

QE is an unconventional monetary policy used by central banks to stimulate the economy when standard monetary policy has become ineffective. A central bank implements QE by buying specified amounts of financial assets from commercial banks and other private institutions, thus increasing the monetary base and lowering the yield on those financial assets.

 Signs of recovery in developed markets

 Market confidence is being restored and stock exchanges in developed countries are pushed to new highs, thanks to the waking up of the US economy, Japan’s ridding of deflation stress, and the European economy having started to collect itself in the second half of 2013.

 Experts say that the bud of revival is clearly visible as trade and service industry indices take a turn for the better, despite high unemployment rate possibly continuing to haunt the way back to full rejuvenation.

 “We have certainly avoided the worst-case scenario over the past five years,” IMF Managing Director Christine Lagarde said Wednesday 22 january via her WEF blog account, adding that the latest forecast by the International Monetary Fund (IMF) put global GDP growth at 3.7 percent in 2014, “which is decent”.

 “But the time has come to push further, including by using the room created by unconventional monetary policies to implement structural reforms that can jump-start growth and create jobs,” she said.

 Policy adjustments like the downsizing of Washington’s QE programme can also pressurize the markets, while uncertainties resulting from foreseeable reforms of other major economic powers cannot be underestimated.

 Lagarde also warned that risks of stagnation and deflation could loom large despite the recent stronger performance of advanced economies.

 QE tapering raising spill over of risks

 Late last year, the money-printing Fed announced a “modest reduction” in monthly asset purchases from $85 billion to $75 billion, with another $10 billion trimmed from mortgage-backed securities and Treasury bonds.

 “The risks associated with emerging markets remain high, but the way in which QE tapering is applied can play a role in either enabling growth or throwing currencies and economies into turmoil,” FTI Consulting said in a report published Wednesday, when the annual Davos forum began.

 “The global economy is more interlinked now than ever before so a lack of synchronization across the central banks deploying QE could have drastic destabilizing effects,” said Mark Malloch-Brown, chairman of Europe, Middle East and Africa at FTI Consulting.

 The expert also warned that inflation destabilization and the rising costs of borrowing can be possible threats to emerging economies should they give poor responses.

 RMB products becoming popular

 The Chinese currency has repeatedly marched to new highs against the dollar at the beginning of 2014, carrying on the strong momentum from last year.

 China has signed various currency swap deals with its trading partners, evincing the RMB’s rising recognition in global markets, while derivatives of currency options and RMB bonds have been gaining popularity as a result of China’s steady and healthy growth over the years.

 Yu Yongding, from the Institute of World Economics and Politics at Chinese Academy of Social Sciences, said the practice of overseas institutions issuing RMB bonds should be encouraged as a way of exporting the yuan and allowing China to become the creditor of its own currency.

 However, reforms on exchange rate need to be carried out in steps to avoid external arbitrage and properly assess the impact of foreign trade on the economy in macro-terms, said the Chinese expert. –


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