Not All QE Is Created Equal as U.S. Outpunches ECB-BOJ

It turns out not all quantitative easing is created equal.

New stimulus measures at the Bank of Japan and European Central Bank (BOJDTR) may lack the global punch of the U.S. Federal Reserve, which last week ended its third round of quantitative easing. So investors should pay more attention to the source of the extra cash sloshing around the financial system than to the amounts.

"It is unlikely that increased asset purchases by the BOJ and the ECB will be able to provide a full offset to the end of Fed purchases," says David Woo, head of global rates and currencies at Bank of America Merrill Lynch in New York.

His calculations, contained in a Nov. 3 report, show the Bank of Japan's surprise decision last week to boost its monetary base faster than previously planned will help add another $730 billion to its balance sheet in the next year. Meantime, the ECB's buying of asset-backed securities and covered bonds should add $410 billion to its accounts annually.

So even with the Fed no longer buying $85 billion a month of assets, the aggregate liquidity provided each month by the three major central banks will next year return to this year's peak of a little more than $150 billion.

That may help cap any climb in market interest rates in 2015, yet won't be enough to fully soothe markets as when Fed Chair Janet Yellen and colleagues were writing the checks, according to Woo.

Fed Influence

Woo argues that the Fed's influence lies in the benchmark role of the dollar and U.S. Treasuries. Secondly, the Bank of Japan's latest salvo is more about domestic issues such as reforms of the Government Pension Investment Fund than a signal that it wants to make up for U.S. withdrawal. Finally, Japanese and German bond yields are already so close to zero that the effect of purchases by their central banks will be limited.

The upshot is that even with the ECB and BOJ spending, investors will probably now treat bad U.S. data such as a weak jobs report more harshly than when they thought economic deterioration spelled more monetary stimulus.

The average daily return of the Standard & Poor's 500 Index (SPX) this year following a worse-than-expected non-farm payrolls report was 0.7 percent, according to BofA Merrill Lynch. In no other year since 2005 has such weak data been so cheered.

Now, "if bad news is going to be treated by the market as bad news, this argues for higher volatility and higher risk premium," said Woo.

To contact the reporter on this story: Simon Kennedy in London at skennedy4@bloomberg.net

To contact the editors responsible for this story: James Hertling at jhertling@bloomberg.net Zoe Schneeweiss