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Central bankers to the rescue? Don’t count on it

Who cares about declining corporate earnings and global economic malaise when you have the world's most important central banks on the case?

That, at least, is the reaction from stock markets, most of which have been on a tear in the runup to this week's monetary policy announcements from the U.S. Federal Reserve and the European Central Bank.

The Fed will deliver its policy statement on Wednesday, with the ECB following on Thursday.

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With key interest rates so low, there is little expectation for more cuts. But there are plenty of other moves available to policy-makers as they attempt to give their economies a jolt.

The question for investors, though, is whether these moves will have any lasting impact on stocks. There is a lot of skepticism, especially after the S&P 500 turned in its biggest back-to-back gains of the year last week.

Asset manager Brockhouse Cooper believes that any hope that the Fed will launch another round of quantitative easing – or QE, a stimulative policy involving printing money to buy bonds – might be baked into share prices already.

"As a result there is a risk that a QE announcement would be seen as a 'sell the news' event," Brockhouse Cooper said in a note, referring to those days when stocks fall on what looks like good news.

Even worse, the firm also entertains the possibility that the Fed might not even act, given that the risks of deflation – the biggest single reason to take action – seem low.

"Additionally, we consider the current economic growth to be lacklustre but not terrible. As a result, we believe that the Fed might be tempted to wait until things worsen before announcing a QE program."

John Hussman, the bearish market commentator and head of Hussman Funds, argues that investors are misguided if they believe that there is no economic problem too big that central bankers can't solve by printing money.

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"Unfortunately, the full force of economic history suggests a different narrative," he said in his latest note to clients.

While it is true that previous stimulus policies have given the S&P 500 a nice boost, quantitative easing tends to work best when stock prices are in the dumps and investors are retreating from risk. That isn't the case today.

At best, Mr. Hussman thinks another round of quantitative easing from the Federal Reserve will drive the S&P 500 up to 1,430, or about 3 per cent above its current level.

"Given that our economic measures continue to indicate that the U.S. has entered a new recession, it is not clear that another round of QE will even achieve that effect," he said.

Meanwhile, the ECB is likely to attract even more attention than the Fed for its policy efforts, partly because the euro zone's sovereign-debt crisis is so threatening and partly because there seems to be a bigger role for the ECB to play.

Last week, ECB president Mario Draghi got investors excited when he said the central bank would do "whatever it takes" to preserve the euro. That suggested that the ECB might be warming to the idea of buying Spanish government bonds to drive down the country's borrowing costs.

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But if you think that sounds like a cure-all for the region's ills, think again: While bond-buying might curtail speculation about the breakup of the euro, it won't do much to support the euro zone's economy.

As Tim Duy argues, Europe remains hobbled by a devotion to austerity measures, which is not promising in the long run. Indeed, the economics professor at the University of Oregon sees Europe struggling through an ongoing recession and stagnation – or outright depression.

"Yes, I am a euroskeptic, so feel free to take my comments with a grain of salt," he said. "But when I read [Mr.] Draghi's remarks, I see a policy-maker in denial, not wanting to understand the root causes of the crisis."

If this is the week of central bank action, better take cover.

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About the Author
Investing Reporter

David Berman has been writing about business and investing since 1995. He has written for a number of magazines, including Canadian Business and MoneySense. He worked at the Financial Post as an investing writer and daily columnist before moving to the Globe and Mail in 2008. More


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