Compare and contrast:

Via Bond bubble burst will gut gilt investors, warns Merrill Lynch – Telegraph Blogs:

Never mind what the Bank of England monetary policy committee says about interest rates on Thursday. One of the biggest wealth managers in the world is discretely warning its income-seeking clients to beware of bonds issued by the British Government; generally known as ‘gilts’.

Merrill Lynch Wealth Management fears that despite the apparent security of gilts, a combination of rising inflation – already underway – higher interest rates and the cessation of quantitative easing – both widely anticipated – could create a “perfect storm” for investors who buy these bonds at current market prices.

And via Friedrich August von Hayek’s Nobel Prize Lecture (emphasis mine):

In fact, in the case discussed, the very measures which the dominant “macro-economic” theory has recommended as a remedy for unemployment, namely the increase of aggregate demand, have become a cause of a very extensive misallocation of resources which is likely to make later large-scale unemployment inevitable. The continuous injection of additional amounts of money at points of the economic system where it creates a temporary demand which must cease when the increase of the quantity of money stops or slows down, together with the expectation of a continuing rise of prices, draws labour and other resources into employments which can last only so long as the increase of the quantity of money continues at the same rate – or perhaps even only so long as it continues to accelerate at a given rate. What this policy has produced is not so much a level of employment that could not have been brought about in other ways, as a distribution of employment which cannot be indefinitely maintained and which after some time can be maintained only by a rate of inflation which would rapidly lead to a disorganisation of all economic activity. The fact is that by a mistaken theoretical view we have been led into a precarious position in which we cannot prevent substantial unemployment from re-appearing; not because, as this view is sometimes misrepresented, this unemployment is deliberately brought about as a means to combat inflation, but because it is now bound to occur as a deeply regrettable but inescapable consequence of the mistaken policies of the past as soon as inflation ceases to accelerate.

Hayek’s remarks about the affect of new money on unemployment are of general applicability and might be considered an extension of the Cantillon Effect (PDF). Money is not neutral: where it is injected into the economy matters. New money – whether through QE or credit expansion in excess of real savings – certainly creates economic activity, but it also distorts the structure of activity into shapes sustained only by the injection of new money.

And so now we see that QE – injecting new money into the bond market – has created a problem in the bond market.

You can find out more about the errors of QE here.

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