The Eurozone awoke to the news late last week that central bank interest rates will be at zero or below for the foreseeable future. Mario Draghi, President of the European Central Bank (ECB), has decided to reintroduce the mad monetary policy called Quantative Easing or QE for short. What does this mean you may ask and why do we Aussies care about what Mario Draghi thinks or does when he’s not at home? All valid questions, so let’s get some clarification on what impact this may have on Australians and their investing future.
Mario – on his way out the door by the way – and his fellow board members in their infinite wisdom have decided that it’s a good idea to pump even more government money (€20bn per month starting in November 2019) into the European economies through QE. First off, how does QE work?
Basically, central banks like the ECB, increase the supply of money in the economy by buying government bonds from investors. As basic Economics tells us, when you increase the supply of something, the price drops (all other things being equal of course). The price of money is measured in interest rates, so we have the ridiculous situation where negative interest rates are implemented.
The Mad Hatter is definitely in charge of the tea party now.
There’s already $16 trillion of negative yielding debt floating around out there without adding more to it. The Europeans have tried this policy for close to a decade and that hasn’t achieved much in the way of consistent growth (see chart below).
It’s important to remember that it was only a couple of months ago, that the German government auctioned off a 30-year bond that only offered investors their money back after 30 years. In other words, they expect zero inflation for 30 years!
Although the yields on Aussie bonds (that’s not the underwear brand by the way) haven’t dropped to zero, they’re heading in that direction (see following chart).
Of course, the yield on Aussie bonds is already heading for the floor too.
But this may be the new normal with our own central bank, the RBA suggesting that it could be “forced into unconventional methods of getting the Australian economy back on track”. Our good friend, Lucky Phil (the Governor of the RBA), told an economic parliamentary hearing that it could cut the official interest rate to zero or below if the economy doesn’t improve. It’s clear they’ve run out of ideas.
As we know, Phil has asked the PM, to increase spending on infrastructure (fiscal policy) as a way of stimulating the economy, rather than just relying on interest rates. It’s like Stacy Jones the station master, asking the Fat Controller in Thomas the Tank Engine for help. All Stacy can do is to pull a lever to change the line that Thomas, James or Gordon is running on, whereas the Fat Controller can build bridges, branch lines and even locomotives.
Perhaps Phil is concerned that the government doesn’t have a proper plan. This makes Lucky Phil and his band of merry RBA staff even more worried. As Phil recently said, “We can be confident that lower interest rates will push up asset prices, and I think that later on we will have problems because of that,“. Very understated and central banker speak for “this aint gonna work in the long run folks!”
So, with very low and maybe negative interest rates here to stay, more inflation in property prices and stagnant wages growth continuing, what can investors do? Australian pink diamonds offer you excellent rates of return because of increasing scarcity and rising demand as the closure of the Argyle mine draws closer. Call the experts at Argyle Diamond Investments, so that we can show you how this asset class can boost your retirement savings.