Debunking the Myth: Money Printing Does Not Necessarily Lead to Inflation

Key Points:

Property prices in the United Kingdom reached an all-time high in 2020, despite the global pandemic and mass unemployment.
Record-low interest rates and government policies have offset the negative impact of the pandemic on the real estate market.
Low rental yields in desirable neighborhoods like Hampstead in London have turned positive due to low financing costs.
Some property buyers are betting on inflation to reduce their debt load over time.
The expansion of central bank balance sheets and money supply does not always lead to inflation, as observed in Japan, the United States, and the United Kingdom.
Factors like demographics and productivity growth may have a greater impact on economic growth than central bank policies.
Mass money printing by central banks can distort financial markets and inflate asset prices.

Introduction

London ranks ninth on the UBS Global Real Estate Bubble index for residential properties. Despite the global pandemic, property prices in the United Kingdom reached an all-time high in 2020. This can be attributed to government policies such as furlough schemes, stamp duty holidays, and record-low interest rates.

Despite the high property prices, rental yields in desirable neighborhoods like Hampstead in London remain low. However, the low financing costs have turned the rental yields positive and made property investment more attractive.

Some property buyers are banking on inflation to reduce their debt load over time. The theory is that the monetary and fiscal policies implemented over the last decade will lead to higher inflation, increasing income and real asset valuations while keeping the loan amount the same.

Central Bank Balance Sheet Expansion

Central banks have been expanding their balance sheets since the global financial crisis in 2008. This continuous money printing has raised concerns about its potential impact on inflation. However, the relationship between central bank balance sheet expansion and inflation is not always straightforward.

For example, in Japan, the central bank’s balance sheet has significantly increased, but the impact on inflation has been limited. This suggests that other factors, such as demographics and productivity growth, may have a greater influence on economic growth and inflation.

Money Supply

The money supply, measured by metrics like M1, has been trending lower in the United States, Europe, the United Kingdom, and Japan since the 1980s. The monetary stimulus conducted since 2009 has had little impact on money circulation.

In 2020, the US government issued COVID-19 stimulus checks, which increased the cash in circulation. However, this did not result in a significant increase in the money supply in countries like the United Kingdom and the European Union.

Central Bank Expansion, Money Supply, and Inflation in Japan

Japan provides insights into the relationship between central bank balance sheets, money supply, and inflation. Despite significant expansion of the Bank of Japan’s balance sheet, the impact on money supply and inflation has been limited.

While inflation and money supply have been correlated at times, they have not always moved in tandem. This suggests that other factors may play a role in determining inflation levels.

Central Bank Expansion, Money Supply, and Inflation in the United States

In the United States, the relationship between central bank balance sheet expansion, money supply, and inflation mirrors that of Japan. While the central bank’s balance sheet has expanded, the impact on money supply and inflation has been muted.

Inflation can occur without significant changes in the money supply, as seen during the oil crisis in the 1970s. The recent increase in the money supply does not guarantee a corresponding increase in inflation.

Central Bank Expansion, Money Supply, and Inflation in the United Kingdom

In the United Kingdom, there was a strong positive correlation between the Bank of England’s balance sheet, money supply, and inflation between 1947 and 1995. However, the relationship broke down after that period, suggesting that central bank activity may have become less relevant to money supply and inflation.

It is unclear why these relationships changed, but it could be due to the nature of modern central bank policies, which focus more on influencing financial markets rather than directly impacting money supply.

Further Thoughts

Similar analysis in the eurozone shows that central bank money printing is largely irrelevant to money supply and inflation. Central banks, despite their mandate to create moderate inflation, may have limited power in influencing economic growth.

While mass money printing by central banks can distort financial markets and inflate asset prices, it may not necessarily lead to higher inflation. Other factors, such as demographics and productivity growth, may have a more significant impact on economic growth.

Investors should be aware of the potential distortions caused by central bank policies and carefully consider the long-term implications for their investment strategies.

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All posts are the opinion of the author and should not be construed as investment advice.