Quantitative Easy (QE) is being praised as a success.  This monetary policy is where a central bank issues new money (essentially creating it from nothing), and uses it to purchase assets from other banks. Ideally, the cash the banks receive for their assets can then be lent to borrowers. The idea is that, by making it easier to obtain loans, interest rates will drop and consumers and businesses will borrow. Theoretically, the increased borrowing will result in more consumption, which fosters job creation and, ultimately, creates economic growth.

QE has been a failure because it has resulted in very little true economic growth, if any at all.  The main outcome from the monetary policy is that interest rates have been pushed to historical lows and debt to historical highs.  One of the main outcomes is business has used lower interest rates to issue bonds and use the proceeds to purchase its own stock.  This results in increased earnings per share, causing a rise in share prices.  Business is also using the low interest rates to invest in government debt and stocks rather than building plants and equipment. 

The world economy will bounce along because consumers must spend X amount every day to eat, sleep and for health needs.  This is basically a constant for all economies.  Where the problem lies, which those in charge of government and monetary policies do not understand, is the consumer needs extra income to give an economy a boost. This has not been the case.

As the chart above illustrates, real (adjusted for inflation) median household income in the U.S. is roughly 6% percent lower than it was in June 2009 (the month the recovery technically began), 7 percent lower than in December 2007 (when the most recent recession officially started); 8 percent lower than in January 2000, and only 5% higher than 1995. 

Currently, after-tax wage growth around the world is less than the rate of inflation.  The U.S. has averaged a 1.6% inflation rate since 1995.  Using the data from the chart above, the average American has lost roughly 1.2% of their purchasing power every year since 2005.  For those who are retired, they are getting poorer by the day because low interest rates are causing them to spend their capital at a much faster rate.  This would not be the case if their savings generated a larger income.

In today’s economy, the only way to increase ones passive income is to pick dividend paying shares in a company that raises the dividend each year by a minimum 3%.  One can also pick the right investment to earn capital gains, which has far more to do with luck than brains.  Since probably 80-to-90 percent of people only invest in various types of bank accounts, the majority of savers are sliding backwards even faster thanks to the low interest rate policies that plague the world. 

An economy needs to place as much discretionary income into the consumers’ pocket as possible.  This cannot be achieved by accommodating the borrower with historically low interest rates.  Contrary to the government’s way of thinking, it is the saver that drives the economy, not the borrower.  After all, one cannot lend what you do not have.

There are plenty of things governments can do to stimulate growth and put money into the hands of the consumer.  However, for some unknown reason they do not want to.  Instant results would be realized by lowering personal income taxes and the GST, or by eliminating the destructive capital gains tax.  Governments can also allow a certain amount of passive income to be earned tax free.

Rather than favoring monetary stimulus (QE), which has been a failure, governments should focus on fiscal stimulus such as increase spending on building better infrastructure.  Improvements need to be made in all corners of the world.  This type of spending creates well-paying jobs, which is the key to a prosperous economy. Furthermore, these types of projects tend to pay for themselves by keeping the economy going, which generates taxes along the way.

There is no benefit to catering to the overleveraged.  If one is overextended, it is going to bite them in the rear no matter if rates stay where they are or not.  It may sound a little radical, but the best solution would be to hike interest rates to a level that benefits the saver at the expense of the over-leveraged.  It makes more sense to force a bankruptcy, which one is cleared of in a few years, rather than have the person’s income pay the debt off over 15 or 20.

Asset prices are going to revert to the norm no matter what.  The only factor we can dictate is the duration it will take.  The route governments are taking is simply prolonging the contraction phase of the economy.  Until governments get serious about placing money in the hands of the consumer and rewarding savers, the world economy is going to continue to drift downward.  The stock markets will eventually follow.