Practical analysis for investment professionals
28 January 2014

Two Views on the QE Endgame: Avinash Persaud and Richard Duncan

Ever since the US Federal Reserve initiated a policy of quantitative easing (QE) in November 2008 in response to the deflationary pressures brought on by the global financial crisis, economists and Fed watchers have debated both the efficacy of the policy and what the long-term impact would be on the economy and the global monetary system. Five years later, the debate continues — even as this unprecedented, coordinated intervention has come to define our current era in the global capital markets. Fed Chairman Ben Bernanke’s 18 December announcement that the Fed planned to “taper” its purchases of securities over the following year has not quelled any of these open questions. Nor did it clarify how QE will end.

At the recent CFA Institute India Investment Conference in Mumbai, attendees were presented with two very different perspectives on QE. Avinash Persaud, emeritus professor of Gresham College and chairman of Elara Capital and Intelligence Capital, pointed out that “the first round of QE was crazy, ad hoc, diverse, and it worked.” But later rounds were “largely impotent,” he contended, given that the cash generated by the strategy has failed to reach the economy, instead mostly ending up in central bank reserves or hoarded as cash on the balance sheets of corporations as insurance against future disruptions in the credit markets.

“During the period of QE there has been no gush of cash or wall of money flooding into assets,” Persaud said. “Rather, asset prices have increased because we’re discounting at zero interest rates. The quantity of money has had no impact whatsoever.” In his view, QE has primarily served as a very expensive signal that monetary policy will remain “easy.” For the most part, QE “is purely a communication instrument,” he argued.

So what does Persaud think the market should take from the Fed’s taper announcement?

“The bond market decline has only just begun. For stocks, the end of the rally is near.”

Fellow presenter Richard Duncan, chief economist at Blackhorse Asset Management and the publisher of Macro Watch, brought an entirely different perspective to the topic of QE, its role in the economic recovery, and its likely endgame. He argued that global economic growth over the past 45 years has largely been the result of exponential credit expansion, a phenomenon he calls “creditism,” which in his view most accurately describes the global economic system since the “corruption of capitalism” that occurred when money ceased to be backed by gold, beginning in 1968.

While creditism has created unprecedented global prosperity, according to Duncan, the end of credit expansion that accompanied the financial crisis continues to threaten the global economy. QE was implemented by policy makers “trying to avert a deflationary debt spiral and prevent the economy from reaching a natural, lower, equilibrium,” and the strategy has largely worked — for now.

Duncan offered a compelling analogy. “Think of the global economy as a big rubber raft filled with assets and people, inflated with credit instead of air,” he said. “The raft is defective, and the credit is leaking out through numerous holes as it is destroyed by defaults.”

Is the Fed’s announced intention to reduce asset purchases under QE compatible with a global economy reliant on credit expansion?

Not according to Duncan.

Under the Fed’s announced taper schedule, he expects a liquidity drain beginning in the third quarter of 2014 that will likely increase interest rates and plunge the world economy back into recession. “I don’t believe the Fed will allow that to happen,” Duncan said. Instead he expects the Fed’s taper schedule to be revised, and the policy of QE to be extended. “I expect between $500 billion and $1 trillion of QE in both 2014 and 2015,” he predicted.

The silver lining?

“We’re in a unique scenario where deflationary forces have offset the inflationary forces of fiat money creation,” said Duncan. This creates a unique and historic opportunity for governments to print money and invest the capital in productive and transformative technologies. Can politicians rise to the occasion? This remains an open question.

Perhaps the most important question, though, is this: How long can money-printing persist without collapsing the monetary system?

Barring any trade wars, Duncan says he thinks the current inflation/deflation equilibrium could last for another decade.


Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

About the Author(s)
Charlie Henneman, CFA

Charlie Henneman, CFA, is head of educational events and programs at CFA Institute. Previously, he was the director of structuring and operations at Indosuez Capital, the CDO (collateralized debt obligation) management group of Credit Agricole Indosuez. Henneman previously held several positions in credit and structured finance, including managing director at advisory boutique AGS Financial, senior vice president and chief credit officer in the new products and ventures group at Enhance Financial Services Group, Inc., and director in the new assets group on Standard & Poor's structured finance ratings team. He holds a BA in political science from the University of Rochester and an MBA in finance from the New York University Stern School of Business.

1 thought on “Two Views on the QE Endgame: Avinash Persaud and Richard Duncan”

  1. James Marsh says:

    I think Duncan is mostly correct, but I think things got really bad in the early 80’s when Continental IL became the first two big to fail. A normal economy would have natural times or easy and hard money. We have an economy run by wonks who like to try to stave off the business cycle from the top down. The unforeseen conequence was that we need unlimited credit expansion.

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