Home >Opinion >The pall-bearers of central banking

When I saw the story on the first corporate bonds in Europe being issued with negative coupons, I shrugged my shoulders. Some of these stories have ceased to shock. Central banks in the advanced world must take credit for it. They have succeeded in rewiring our brains as to the limits of monetary policy. We cease to be surprised. They face less scrutiny, consequently. They become bolder. Joseph Gagnon—he had spent a lot of time at the Federal Reserve—wrote recently that there was no reason why central banks should not have a diversified portfolio of equities. He was probably engaging in ex-post validation because the Bank of Japan and the Swiss National Bank (SNB)—to name just the two that come to mind—have been at it for quite some time.

An article in the Financial Times in July, citing SNB’s annual report, notes that it held shares of about 1,500 mid- and large-sized companies and roughly 4,400 smaller companies in advanced economies, and about 800 emerging economy companies. It owned $1.5 billion of Apple Inc. and $1 billion worth of Microsoft Corp. shares on 31 March 2016. The European Central Bank (ECB), on its part, is buying corporate bonds. Companies are placing bonds privately with ECB!

Central banks are engaging in capital allocation. That is central planning. Indeed, they were already partially engaging in central planning when a bunch of (mostly) greying males sat around a table and decided on overnight interest rates. Interest rate is the price of money and market mechanisms are supposedly more efficient in price discovery than the bureaucrats or technocrats deciding them. Now, they have taken it a level further. They are setting the price of all financial assets. Well, it seems they are doing what they have been doing all along, only slightly differently.

The two versions of the working paper Stock Returns Over The FOMC Cycle, written by Anna Cieslak, Adair Morse and Annette Vissing-Jorgensen—one in April 2014 and another in June 2016—recount many instances of individual and systematic flow of information from the Federal Reserve to the media and to the financial sector. First, they confirm that negative stock market returns in the weeks leading up to the Federal Reserve Open Market Committee (FOMC) meetings were an economically and statistically strong predictor of reductions in the federal funds target rate. The authors make a dramatic statement matter-of-factly: “The Fed put explains the majority of realized stock returns over our sample period (1994-2015)." In other words, the Fed underwrote the stock market.

That is not the only way by which the Fed rides to the rescue of the stock market. Tim Geithner, while at the Federal Reserve Bank of New York, shared information on the proposed cuts to the discount rate with the president and chief executive officer of the Bank of America, and denied it. A capital market research advisory firm actually touted its access to Federal Reserve officials as one of its selling points. Further, Fed officials routinely brief selected journalists. There is a prima facie case to suspect Caesar’s wife!

There is a plausible defence of the conduct of the Federal Reserve governors and officials. Hence, they want to get a sense of what market participants think about the Fed policy and a “feel" for how their policy decisions would be received by the market. In turn, it is because Federal Reserve models assign a big role to stock price movements in influencing macroeconomic outcomes such as economic growth and employment. The working paper confirms that it is the case. A significant part of the variations in the forecasts of gross domestic product growth and employment made by Fed staff in the internal Greenbook are traced to stock market fluctuations.

However, there are two objections to the exaggerated importance that the Federal Reserve has assigned stock markets. One is that it is plain wrong and the second is that it has distributional consequences. Hence, continuing to support the stock market with policy actions and policy leaks probably has greater costs in terms of credibility and trust than the dubious benefits it has for output and employment. Underwriting stock markets and hiking interest rates when wage growth begins to accelerate are guaranteed recipes for social divide and bitterness. That is what the US has now and the Federal Reserve shares a great deal of blame for it. The working paper provides formal evidence of it.

Across the Atlantic, industry insiders confirm that ECB places calls to companies contemplating issuing bonds that it would subscribe to a lion’s share of the issue. At some levels, bonds with negative coupons are worse than stocks. During its life, bonds with negative coupons can go up in price only if central banks push rates further into negative territory. What a bizarre world.

Even as the US tries to encircle Russia with its NATO expansion, Soviet central planning and capital allocation have captured America and Europe. In the process, central bankers—let us not name names because there are several of them—have become the pall-bearers of capitalism. They have buried it. Perhaps it is time to bury central banking—as it has come to be practised in recent times in advanced countries—too.

V. Anantha Nageswaran is an independent financial markets consultant based in Singapore.

Comments are welcome at Read V. Anantha Nageswaran’s previous columns at

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