Is it stimulus all over again?

Thu, 7 Oct Pre-Open

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The truth is getting difficult to ignore. It seems to be hitting us in the face and hitting hard. Growth in the developed markets is fading. Stimuli measures that were unleashed a couple of years back are showing signs of wearing off. Thus, it is back to the drawing boards for quite a few central banks around the world.

Amidst all this, it looks like this time it is not the US that has fired the first salvo. The honours have gone to its Japanese counterpart, The Bank of Japan. Recently, it dropped its interest rate to 'virtually zero'. As per Moneynews, it cut its overnight call rate target from 0.1% and established a 5 trillion yen fund to buy government bonds and other assets.

Japan's move is not entirely unexpected. The Japanese Yen moved to a 15 year high last month and this was obviously hurting its exports, its most important source of economic growth. Therefore, it had to do something to stem the Yen's appreciation and it did indeed move swiftly.

However, it is not Japan alone that is trying to boost its exports. Even the US and the Euro Zone desperately want to do the same. Thus, the move by Japan could easily snowball into a fresh round of monetary easing across the globe.

As Warren Buffett says, in economics you can never really do one thing. There are always other effects that come out of it. Thus, this second round of monetary easing could also have its effects. In the form of higher inflation.

However, inflation is not a problem right now. It is deflation, its exact opposite that is the key concern for most investors. They fear that if deflation takes hold then the economy would enter a downward spiral, leading to some very nasty depression. And they certainly do not want such a scenario to present itself.

However, if deflation is a threat, what about hyperinflation? Will not the extensive money printing that is happening right now lead to hyperinflation in the future and destroy the purchasing power of most currencies across the globe.

It is not that the economists are not aware of the threat of hyperinflation. But they are of the opinion that they can have their cake and eat it too. In other words, all they want is a little bit of inflation and not hyperinflation. And they think they will be able to induce monetary tightening just at the right time.

However, this is easier said than done. The real economy is an extremely complex being. Expecting it to behave exactly the way one wants it to is a recipe for disaster. There is every chance that a small inflation snowballs into hyperinflation before the central banks could do anything. And it is this scenario that they should also take into account before they start embarking on another round of quantitative easing.

As for us, it always helps to have a little bit of gold handy.