Why the Fed’s latest quantitative easing won’t work

The purpose of QE3 was to stimulate economic growth and corporate earnings, which is what the markets expect. Sadly both will be disappointed

Edmund Burke, the eighteenth century politician and philosopher, wisely pointed out, “You can never plan the future by the past.” Sadly that is just what markets often do. In the United States the past has taught money managers “not fight the Fed’’. In other words, when the Federal Reserve acts, either through raising or lowering interest rates, you should invest accordingly. So it is not surprising that the US and other markets around the world have rallied over the summer in expectation of additional monetary easing. The idea is that earnings and profits of listed companies everywhere will rise as more money flows into the world’s economies. These expectations are based on a historical precedent, but there are six reasons why this time it may be a poor guide to the future.

  1. Reason One

The first reason has to do with the policy of quantitative easing. The chairman of the US Federal Reserve (Fed) insists that the so-called QE is just the same as past policies in that it lowers interest rates. But the policy is in fact quite novel in its form and much different in its extent. Interest rates have never been suppressed for this amount of time. There are many different opinions as to the consequences, but one thing is sure. They will not be what people expect. All policies are based on what turn out to be false assumptions. In something as complex as the global economy, there is a massive amount of misinformation. The combination inevitably will lead to unintended consequences.

  1. Reason Two

The second reason why the present QE won’t work concerns the means used to do it. In the past, the US central bank bought government bonds, US Treasuries, and mortgage-backed bonds. This time it limited itself to the purchase of only mortgage-backed securities (MBS). While the politicians in Washington are happy to borrow an unlimited amount of money, people buying homes in America are more circumspect. Since the crash of the housing market, the banks have been much more careful who they lent money to. With fewer loans, the banks could get by less staff. So the number of MBS being created is limited to just $1.5 billion per week or $6 billion per month. The Fed wants to buy six times that amount and has to buy in the secondary market. This has raised the value of the bonds and increased profits for the banks and the holders, but it does not necessarily create more money.

  1. Reason Three

The third reason concerns the assumption that by lowering interest rates the Federal Reserve forces investors into riskier assets like equities or commodities. This is simply not true. For example in Europe riskier assets like Spanish or Italian bonds are paying interest rates over 5%, but money is flowing into safer German bonds, which have a negative real rate. The collapse of 2008 has not been forgotten. Companies, savers and retirees, would rather be sure to have their capital returned than increase the return on their capital. Besides, the choice to increase risk may be subject to legal limits for institutions like pension funds and insurance companies.

  1. Reason Four

The fourth reason applies to a basic assumption of monetary policy. The assumption is that if you lower interest rates, consumers will borrow and spend more. Usually this has been true, but not now. US consumers have actually been deleveraging. Their credit card debt is 22% below its 2008 peak. Also mortgage debt is also falling. Net repayments have been increasing and the increase has been accelerating since 2009. Meanwhile pensioners without high yielding fixed income investments spend less.

  1. Reason Five

The fifth reason pertains to Europe and China going into recession. To solve its debt problems Europe opted for austerity, which has resulted in a slowdown. China has been printing money for three years, but growth rate has been constantly slowing. While the US is not heavily dependent on exports, it is still part of the global market.

  1. Reason Six

The sixth reason bears upon corporate earnings. Cheap money is supposed to translate into better corporate earnings. The question is whether there is any correlation? Actually there is very little. Corporate earnings had already hit bottom and had started to improve before QE1. They had the largest growth by the second quarter of 2009 and the rate of growth has declined ever since, despite QE2. Although QE2 probably didn’t do much for corporate earnings, at least it looked good. When the program was started in August 2010, the ratio of negative to positive earnings guidance was about 1 to 1. Now it is over 3 to 1. 


The purpose of QE3 was to stimulate economic growth and corporate earnings, which is what the markets expect. Sadly both will be disappointed.


To read more articles by the same writer, please click here.


(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and has spoken four languages. Mr Gamble can be contacted at [email protected] or [email protected].)


Government issues summons to insurance companies for tax evasion

Companies including Birla Sun Life Insurance, ICICI Prudential, HDFC Life Insurance, MetLife Insurance and Reliance Life among others have been issued summons by the Finance Ministry as part of its probe into alleged service tax evasion of over Rs300 crore

New Delhi: The Finance Ministry has issued summons to about a dozen insurance firms seeking documents pertaining to sale of insurance policies and commission paid to their field associates as part of its probe into alleged service tax evasion of over Rs300 crore by them, reports PTI.


Official sources said that companies including Birla Sun Life Insurance, ICICI Prudential, HDFC Life Insurance, MetLife Insurance and Reliance Life Insurance Company among others have been issued summons by Directorate General of Central Excise Intelligence (DGCEI), an intelligence arm under the Finance Ministry.


An email query seeking response from HDFC Life Insurance, MetLife Insurance, Birla Sun Life and ICICI Prudential was not answered. However, a Reliance Life Insurance Co (RLIC) spokesperson confirmed receiving a letter from the department seeking information.


"We have received a letter from the DGCEI seeking some information. We understand that this is part of a process wherein the department has sought similar information from several other insurance companies.


"RLIC is in full compliance with applicable laws and regulations and will be providing the required information as desired," the spokesperson said.


Preliminary probe so far has found alleged irregularities including evasion of service tax by misrepresenting the information on accounts book and fudging records related to commission paid to field associates, agents and brokers who were selling the insurance policies, the sources said.


The notices were sent under Section 14 of the Central Excise Act 1944 to the companies, they said.


The Act empowers a central excise officer to summon any person whose attendance he considers necessary either to give evidence or to produce a document or any other thing in any inquiry being undertaken by the officer.


"One of the companies was paying more commission to their brokers and field associates but avoiding payment of service tax on the amount. There were discrepancies in records of payment given to such brokers maintained by it," a source said.


The DGCEI started its discreet probe early this year and expanded it after more documentary evidences proved that the amount of evasion may be running into several hundred crores.


"As per the initial investigations, the amount of evasion is at least Rs 300 crore. The department is investigating the matter," a DGCEI official said.


All general policies including insurance against risk of loss to assets like motor vehicle is 12.36% on the annual premium paid. Whereas, the rate of service tax varies on the part of premium taken towards risk coverage for life insurance, according to a service tax expert.


Officials said that in some of the cases companies were deducting service tax from agents who were selling their products but did not show it on their accounts book.


Whereas, there have been instances where the companies were giving incorrect data of the total policies sold or renewed by them to evade tax, the source said.


The total annual premium income of the insurance industry comprising life, non-life and health, is around Rs3.5 lakh crore, as per the Insurance Regulatory and Development Authority (IRDA) data.


According to DGCEI officials, insurance firms representatives will also be called in to explain alleged discrepancy in payment of service tax to the government exchequer.


"We will call the Chief Financial Officer of the defaulter firms to explain alleged wrong doings. The notice seeking personal appearance may be sent by early next month," the official added.


IRDA asks SBI Life to distribute excess payments

IRDA directed SBI Life to identify the member or beneficiaries for each master policy and distribute the wrongful administrative charge by way of refund

New Delhi: The Insurance Regulatory and Development Authority (IRDA) has directed SBI Life Insurance Company to distribute the 'wrongful' component of administrative charges it paid as reimbursement of group expenses to commission agents to the members or beneficiaries of the concerned policies, reports PTI.
As per the guidelines, life insurers are not allowed to pay towards management expenses, documentation expenses, profit commission, bulk discount or any other payment to the agent, corporate agent, group organiser or group manager.
SBI Life Insurance had made certain payments towards reimbursement of group administrative expenses to various master policy holders, which were in 'violation' of IRDA guidelines and for which it was imposed a penalty of Rs70 lakh in July 2011.
"For this purpose (distribution), recalculate the premium chargeable for each member of each group insurance scheme of the life insurer without taking into consideration 20% of premium that is paid to Master Policy Holders," Insurance Regulatory Authority of India (IRDA) said in its directive.
"Distribute the wrongful administrative charge amongst the respective members/beneficiaries of each Master Policy by way of refund...," it added.
The schemes in question included 'Super Suraksha' policies on home, car and tractor loans.
The regulator said these payments to master policyholders were not in the interest of the general policyholders.
IRDA directed SBI Life to identify the member or beneficiaries for each master policy, against which reimbursement were made towards administrative expenses as a percentage of premium.
IRDA said the directives should be immediately initiated and be completed within six months.
SBI Life Insurance is a joint venture between State Bank of India and France's BNP Paribas Cardif. SBI owns 74% of the total capital, while the French insurer owns the rest.


We are listening!

Solve the equation and enter in the Captcha field.

To continue

Sign Up or Sign In


To continue

Sign Up or Sign In



The Scam
24 Year Of The Scam: The Perennial Bestseller, reads like a Thriller!
Moneylife Magazine
Fiercely independent and pro-consumer information on personal finance
Stockletters in 3 Flavours
Outstanding research that beats mutual funds year after year
MAS: Complete Online Financial Advisory
(Includes Moneylife Magazine and Lion Stockletter)