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The Bank Of England Rejoins QE Club:

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Interest Rates Plunge, Stocks Surge. Watch Free Video

Interest rates on UK government bonds plunged to all time record lows last week after the Bank of England (BOE) announced that it would launch its second round of Quantitative Easing.

The yield on the 10-year UK government bonds fell from 0.8% in early August to 0.51% on Friday on the news that the BOE will print £70 billion over the next six months and use that money to buy £60 billion more of government bonds and also £10 billion of corporate bonds. The 10-year UK government bond yield was 2.1% as recently as November 2015. The new asset purchases will take the BOE's holdings of UK government debt up to £435 billion from £375 billion currently.

The implications of this move are quite extraordinary.

The BOE announcement also drove down the yield on Spanish and Irish government bonds to new record lows and pushed down Italian and US government bond yields to near record lows. The yield on corporate bonds also moved lower. The Financial Times reported that the amount of bonds in the world now trading with a negative yield increased to more than US$13.4 trillion after the BOE's announcement.

As global bond yields plummeted, investors were incentivized to move money out of low (or negative) yielding bonds and into stocks. Therefore, it was no coincidence that the Dow, the S&P 500 and the NASDAQ indices all three hit new record highs last week. That was the first time that has happened simultaneously since December 31, 1999.

The Bank of England is joining The Bank of Japan (BOJ) and the European Central Bank (ECB) in printing money on a very large scale. Converted into US Dollars, the BOE will be printing $15 billion per month, the BOJ will be printing $61 billion per month and the ECB will be printing $88 billion per month. That takes the total for the three to close to half a trillion dollars a quarter. That is a very large number. It is also the amount of government debt that those three central banks will be effectively cancelling each quarter. Debt cancellation on such a large scale is excellent news. The future of the UK, Japan and Europe will be brighter as a result.

For an explanation of how QE effectively cancels government debt, click on the following link to watch a free Macro Watch video on that subject (the video was made in early 2015):

The collapse in government bond yields around the world is setting the stage for the next phase of the government policy response to the global economic crisis: a large-scale, globally coordinated fiscal stimulus program. Such a program would succeed in reviving the global economy if implemented on an aggressive enough scale. Japan and Germany can borrow money for ten years at less than 0%. In other words, the borrowers pay those government a few basis points interest for the opportunity to invest in the least risky bonds available. The US government can borrow for ten years at the cost of 1.5% a year.

Governments will find such low borrowing costs irresistible. In fact, it would be idiotic for the governments not to borrow at such low rates. Both US presidential candidates have announced their plans for large-scale infrastructure investment programs. Mrs. Clinton's plan also includes government-funded investment in scientific research. That kind of investment is exactly the right thing for the US government to do. Japan has just announced a new fiscal stimulus program. Austerity in the UK resulted in Brexit and has already been abandoned by the new government. BOE funded fiscal stimulus cannot be far behind. Hopefully, Europe will follow suit before the entire Eurozone falls apart. Germany needs to stop blocking fiscal stimulus. I believe it will.

It looks like 2017 will be the year of central bank-financed government stimulus programs. If so, it will be just in the nick of time.

Most people do not feel comfortable with so much government management of the economy. That's OK. It's not necessary to like it. However, if you want to invest successfully, it is necessary to understand it. If you subscribe to my video-newsletter, Macro Watch, you will. To subscribe, click on the following link:

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Original publish date: August 14, 2016

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