Report
Patrick Artus

Why cannot the liquidity created by central banks be destroyed at a later date?

Since the beginning of quantitative easing by central banks, there has been a partial irreversibility of central bank money creation. The monetary base (bank reserves) created during periods of quantitative easing is only partially destroyed during periods of quantitative tightening. This leads to a permanent rise in the prices of liquid assets, such as equities. The reason for the partial irreversibility of central bank money creation is that some of this money is used to buy illiquid assets that are difficult to sell (mortgage loans distributed by banks, real estate bought by households or by companies). If central banks destroyed all the central bank money they had created, there would be forced sales (to buy the bonds sold by the central bank) of illiquid assets, and a collapse in the prices of these illiquid assets, with a liquidity crisis turning into a solvency crisis. This is why today: Central banks have no intention of destroying all the money they created during the COVID crisis; Prices of liquid assets (equities) are very high while prices of illiquid assets (real estate) have fallen.
Provider
Natixis
Natixis

Based across the world’s leading financial centers, Natixis CIB Research offers an integrated view of the markets. The team provides support to inform Natixis clients’ investment and hedging decisions across all asset classes.

 

Analysts
Patrick Artus

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