In the past few weeks, investment bankers, and investors overall, have experienced what “downside risk” means for equity markets. As of writing, for the 2015 year so far, European equity markets are about flat for the year, while the S&P 500 is is the red. In the East, incredibly, the Shanghai composite is still positive for the years, although the Index is down a good deal from where it was in June 2015 at +60%.
The weakness in equity markets around the world is on policymakers’ minds, chief among them central bankers. Central bankers have various tools at their disposal to address the global weakness, one of which is printing money.
Here is an inspection of what the European Central Bank (ECB), the Bank of Japan (BoJ), the People’s Bank of China (PBoC), and the Federal Reserve (Fed) have been doing with their balance sheets and how it connects with equity market performance.
First off, here’s the ECB experience. The ECB took a break from money printing in 2012 through most of 2014. Unsurprisingly, that wasn’t a great experiment for European financial markets, including the one shown below, the German DAX.
The ECB saw what a shut off of the printing presses meant, and reversed course, restarting the printing presses in October 2014. This move, again unsurprisingly, was met positively with equity markets, as is shown with the German DAX and the ECB balance sheet in the following graphic.
The next graphic inspects the relationship between the Nikkei and the balance sheet of the Bank of Japan. As with the DAX-ECB correlation, the relationship between the performance of the Nikkei and the BoJ balance sheet is readily transparent.
Here’s the China experience. The relationship is somewhat less clear than with the Europeans and Japanese.
The Federal Reserve
Lastly, here is the Federal Reserve. It’s somewhat more difficult to see, but if you look closely, the S&P 500 generally jumps during periods of the Fed printing money and weakens when the Fed turns off the printing presses. The weakness is most pronounced when the Fed first turns off the printing presses.
The Broad Picture
With the experience of the ECB, the BoJ, the PBoC, and the Fed straight forward, it’s not far of a step to argue that if the Fed and the PBoC wanted to boost equity markets, they could simply rev up the money printing presses again. Although such a move would set a terrible precedent, it’s certainly an easy way to boost confidence in the global financial markets.
Overall, it’s fairly clear to see a relationship between central bank money printing operations and the performance of equity markets. With this observation as the backdrop, one way for the Fed and the PBoC to stop the deterioration of global equity markets is for the Fed and the PBoC to start printing money again.
Although a terrible precedent, it, in all likelihood, would certainly work at boosting confidence in global financial markets.