Themes.

Updated quarterly, our evolving views on the thematics shaping the markets around us

Stimulus

WHY IT MATTERS | Government and central banks’ stimulus programs are the most important narrative in financial markets and the strategic channel that governments are using to offset the COVID-related underlying economic distress. Without monetary and fiscal stimulus, the markets and the economy would blow up more spectacularly than that hospital in the Dark Knight (Some Men Just Want to Watch the World Burn).

THE TAKEAWAY | GDP in 2020 decreased by 4.4%, the worst economic shock since WWII and 10x the slowdown recorded in 2009. We’ve yet to feel the pain implied by such economic damage, and governments and central banks will continue to support the economy and financial markets in any way they can to delay the day of reckoning. The longer they continue to stimulate the economy (a +$10 trillion addiction in 2020), the larger the overall level of indebtedness will be, implying a heavier financial burden to future generations. That being said, no government official is incentivized to pull the plug, as they don’t want to deal with the catastrophic (but necessary) consequences of an economic correction. Government and central banks’ stimulus is here to stay.

 

OUTLOOK

  • The stimulus provided by governments in 2020 was unprecedented, even when compared with the Great Financial Crisis in 2007-08.

  • Central banks are the largest buyers of government debt, and this will likely continue to be the case into the foreseeable future. This means the level of fiscal stimulus (funded by the issuance of debt) will continue to be a determinant factor behind asset prices around the world.

  • Central banks’ balance sheets have exploded as a consequence of monetary stimulus, but the narrative now moves away from central banks and focuses on how fiscal budgets will continue to run deficits for the foreseeable future to ensure continued support of the economy.

 

KEY IDEAS TO FOLLOW

Monetary Stimulus from Central Banks | By this, we primarily mean central banks “printing” new money to lend it out to governments and corporates. We’ve had monetary stimulus such as the lowering of interest rates (’conventional measures’) and quantitative easing (‘unconventional measures’) since the 2008 Financial Crisis, which has been incredibly supportive of financial markets but less so of the economy. Monetary stimulus drives bond yields lower, asset prices higher and reduces the overall volatility of financial markets, but doesn’t really increase consumer spending or real wage growth, meaning they can’t rely on it to help with the economic damage of COVID.

Fiscal Stimulus from Governments | By this, we mean governments increasing deficits to either drive overall demand higher (through infrastructure investments, for example) or for direct payments to consumers (obviously to buy deep OTM TSLA calls). These injections not only drive markets higher but also have a greater impact on the economy as liquidity injections are directly received by consumers and corporates. Fiscal stimulus is the main driver of the “reflationary” thesis, where an economic recovery is expected to drive commodities, emerging markets and inflation expectations higher.

Yield Curve Control | This is a monetary stimulus experiment that has been active in Japan for a while now and aims to stabilize the overall level of interest rates across maturities in the Yield Curve. We expect central banks to move in this direction, especially if inflation expectations pick up, which will likely keep interest rates low (but not as low as in 2020) and asset prices higher, whilst its impact on the economy will be largely unnoticeable.

Helicopter Money | This is a fiscal stimulus experiment in which governments send money directly to its population regularly (could be read as Universal Basic Income). This was already a reality during the pandemic, but we expect this to gradually become more mainstream through policy propositions, and a broader interpretation of fiscal budgeting through the lenses of Modern Monetary Theory.