Pour one out for Canada’s cheaper-than-cheap flood of easy credit, because it’s on its way out. Today the Bank of Canada (BoC) announced their quantitative ease (QE) program is coming to an end. The program, which floods markets with cheap debt, was used to drive inflation and home sales higher. Now that these issues have become economic threats of their own, the governor is dialing it back. Prepare for higher mortgage rates and a tighter credit market.
Quantitative Ease, The Toxic Sludge Bankers Love
Quantitative ease is an unconventional monetary policy tool used to drive inflation higher. The program involves central banks competitively buying bonds on the secondary market. By driving up the cost of bonds (sweet if you’re selling them), they’re pushing yields lower. Since credit markets are competitive, lower yields translate into lower borrowing costs. This means cheap money that drives demand for goods, pushing inflation higher.
More bluntly put? QE is when a central bank floods the market with cheap money, so people go on a spending spree. Buy a car, buy a house, buy whatever — but just buy something. Once demand is elevated, inflation picks up. Central banks are terrified of deflation, so your elevated cost of living in a recession is a great success.
Now that you know how it works, isn’t it funny to look back on the issue? Record sales and soaring prices for pretty much everything, including housing. Yet this is a supply issue, because it just won’t keep up with this recessionary demand. During a period where supply is artificially restricted for public safety. Okay, wealthier people might find that funnier than others — I’ll admit.
Still confused? Here’s everyone’s favorite viral explanation of quantitative ease, from a decade ago. It explains the program in a humorous way, as it was rolled out in the US almost a decade ago. It’s not you, it’s the program.
Bank of Canada To End Quantitative Ease
The BoC announced they’ll be killing its QE program today, moving into the reinvestment phase. They’ll still buy bonds, but only to replace the ones that roll off their balance sheet. Not contributing additional liquidity, but not reducing it either.
Prior to this announcement, the central bank bought billions of bonds per week. As of last week, the target was $2 billion per week. As much as that is, it was a taper from the beginning of the pandemic, when they bought $4 billion per week. A lot of state intervention was used to make debt cheaper than interest rates would have allowed.
On one hand, most of the market appears to have been surprised by the move. Bond yields are rallying in response, as the central bank turned more “hawkish.” Banks like RBC shared some doubts the BoC would even taper the purchasing this early. That means it definitely wasn’t priced in, and financing costs will rise fairly fast.
On the other, Canada’s QE program was turning into public distrust, and the BoC admitted it caused inequality. A popular petition to ban the use of QE had been scheduled to be presented in parliament pre-election. As awareness grows about QE, more people are questioning if it’s ethical to exploit the poor this way.
The governor had recently admitted the program promoted inequality. That was a solid signal it was coming to an end, since the governor is a fan of controlling the narrative. He won’t even admit inflation is elevated, so he wasn’t going to admit QE was a problem without ending it.
The market takeaway? QE was suppressing borrowing rates below the current low rate environment. As the program ends, interest costs will rise to more natural levels for the overnight rate. It will have a similar impact to a rate hike, without actually needing to hike rates. This will lower debt loads, as well as taper demand for goods.
So long QE and dirt cheap money. You might be gone, but the inequality you caused will be felt for generations.
On the upside, now is the time for the minister of middle class prosperity to shine. What’s that? The position was eliminated this week as well? How fitting.
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