Central banks are the biggest risk to economy in 2020

The US economic recovery that began in June 2009 is now in its 127th month, which is a record. Even more impressive is that for the first time since the signing of the Declaration of Independence in 1776, the US just completed the first calendar decade without even one day of a recession. There are a few key reasons why this is happening, and one clear risk that could bring the expansion to an end.
The natural trend for an economy is to grow. A recession only occurs when something “breaks.” So, this record expansion is happening because nothing has broken. The primary reason is new technology that gives businesses more flexibility to adapt to changing conditions.
Breaking things, in the literal sense, is also at an all-time low. Major powers have been at war with each almost continuously for over 500 years. But starting in 2000, they have stopped fighting in an unprecedented period of peace in human history.
Another leading cause for breaking an economy has been rising energy prices. Crude oil at $147 a barrel was concurrent with Great Recession in 2008. But this is changing. Abundant energy supplies due to new fracking technologies are reducing threat of a supply shock.
There is, however, an unconventional source of strength that emerged in the last decade that also doubles as its biggest risk: central banks. As of November, the collective balance-sheet assets of the Federal Reserve, European Central Bank (ECB), Bank of Japan (BOJ) and Bank of England (BOE) stood at 35.9% of their countries’ total gross domestic product, up from about 10% in 2008, according to data compiled by Bloomberg.
At the same time, the latest World Bank data show that developed country GDP expanded to $54.2 trillion at the end of 2018 from $46.1 trillion a decade earlier. Restated, central bank balance sheets grew at faster rate, by $9.9 trillion, than their underlying economies, which have expanded by $8.1 trillion, which is a big reversal from the 2001 to 2006 period.
It’s hard quantify just how much of this combined “money printing” by central banks contributed to GDP growth, but most would agree that it ranges anywhere from “some” to “much.”
And when Fed reversed its stance in early 2019, suggesting it wouldn’t increase rates, recession fears receded and stocks soared to post one of their best years ever in terms of returns.
But the Fed kept shrinking its balance sheet, and by September the repo market ran into trouble. The central bank was forced to reverse here, too, and has boosted its assets by more than $400 billion, a move that coincided with the strong fourth-quarter rally in riskier assets such as equities. The takeaway here is that it will be extremely hard for central banks to reverse “money printing.”
With inflation dormant, though, there is no need for central banks to start tightening monetary policies anytime soon and “break” the economy. But should policy makers get their wish and some inflation returns, then it would be time to worry.
—Bloomberg

Jim Bianco is the President and founder of Bianco Research, a provider of data-driven insights into the global economy and financial markets. He may have a stake in the areas he writes about