The feel good factor surrounding Quantitative Easing (QE) has been dampened this week as the political situation in Greece grabbed center stage. However, assuming that the euro will still be in existence till the end of 2016, QE offers a once in a lifetime opportunity for the Maltese economy. The way government stocks are traded in Malta and our insular mentality offers a unique environment for monetary policy to act. What follows are my expectations.
Quantity
As the Central Bank of Malta’s (CBM) capital in the ECB represents ‘circa’ 0.6 per cent, the CBM’s share of the pie would be over €30 million a month for the next two years. This is a staggering amount of cash going into the Maltese economy on a monthly basis. Effective implementation by the CBM will be key to the success of the program; to everyone getting a share of the pie.
Implementation
The CBM is expected to use its market making role in the secondary market to purchase the €30 million worth of Malta government stock monthly starting in March. Traditionally the Central Bank has often bid at a price below what would be perceived as the equilibrium price.
Low trading volumes have often been attributed to unwillingness by retail holders of MGS to part from the assets. However, in economic terms everything has a price and unwillingness to trade is only a symptom of a price below equilibrium.
Following the QE announcement, trading volume in Malta government bonds has increased significantly as trading prices increased. In order to manage to purchase €30 million MGSs on a monthly basis this trend has to be maintained.
The consequence
As the Central Bank tries to attract sellers by increasing the price, holders of MGSs may be able to cash their holdings at a very good price. These happy investors will end up with cash holdings that will include their initial investment plus a sizeable profit. They will then have to decide what to do with this cash pile, which should in theory amount to €30 million monthly.
Financial institutions
Local financial institutions and investment funds also are assumed to hold large amounts of MGS’s and this may be an opportunity to take some profits on these holdings. Having said this, a central bank wanting to maximise the effect of QE would prefer to trade with the retail investor. The notion that banks would use the extra cash to increase the supply of loans may not be realistic. Financial institutions would probably reinvest in international financial markets thus shifting the benefits to another country.
Consumers
Some will choose to part with some of their gains because why would anyone invest in the first place if one cannot enjoy it? An increase in consumer spending is thus expected to be one of the first effects. Another significant part will be reinvested in financial assets causing asset inflation; so expect the local equity and corporate bond markets to react.
Property
Part of the funds will be redirected into the property market. This may eventually lead to significant growth in the construction sector. The property market may be the big winner in the end.
The Central Bank of Malta
The CBM will hold the MGSs as assets thus collecting the interest payment from the government. As central banks are public entities, profits are normally returned to the government. More or less, the government is practically writing-off its interest on the bonds purchased by the Central Bank.
If implemented correctly, quantitative easing in Malta has the potential to provide a significant boost to the Maltese economy as the cash injection ripples around the economy. It is possible that €30 million would pass into consumer pockets, into the property market and into the economy on a monthly basis for the next 2 years. In all probability Malta, due to the way the local bond market is structured, is an ideal test case for QE.
Disclaimer:
This article was issued by Antoine Briffa, Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt . The information, view and opinions provided in this article is being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri & Co. Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.