Making the Most of Doing More
Speech given by Adam S. Posen at the Barclay's "Short end rates" seminar in London
The title of this conference is a good place to start: “Living in an AA World.” I take that to mean both that the world is a riskier place in which to invest than it was prior to the global financial crisis of 2008-09, and that it is widely perceived to be riskier.1 This recognition has been accompanied by a sustained rise in the risk aversion of investors – businesses, portfolio managers, financial intermediaries, and even households. The combination has resulted in an excessive desire for liquidity and relative safety that remains one of the core causes of our economic problems. Monetary policy, including all forms of quantity-based easing, affects expectations about future economic conditions, about the availability of liquidity and, thus, at the margin, the willingness to make risky investments. So I will argue today that:
- A further round of asset purchases by central banks should focus on private sector assets in order to make a sustained improvement in perceptions of risk, if not in risk aversion;
- Such asset purchases can be targeted on dysfunctional financial markets that are both important and potentially sizable, and can encourage securitization in those markets; and
- There are straightforward transparent ways to minimize the credit risk on central bank balance sheets, and any negative spillovers on markets or politics, from so doing;
The well-informed observer will recognize that these are familiar arguments. I advocated a form of what has since been called “credit easing” last September (Posen (2011a)), and a number of others have made varying proposals along similar lines before and since. The need for such programs has become more evident as the recovery has petered out in the UK and elsewhere, and as the risk of disorder in the euro area has reinforced the trends towards excessive reluctance to invest. As too often stated, monetary policy cannot make underlying imbalances disappear - but monetary policy can offset them in part and limit overreactions to them. If central banks do both, as they can, they should keep us from going further into a self-fulfilling cycle of fear and contraction.