QE can create GDP growth but not economic prosperity

Countries around the world are once again embarking on QE, or Quantitative Easing, which involves printing money and pushing it into the economy, and although QE can create GDP growth, no amount of money printing can create true economic prosperity.

QE can create GDP growth

Quantitative Easing involves a nation’s central bank creating money out of thin air and then using the freshly printed money to buy assets such as government bonds from commercial banks and other financial firms. The hope is that these financial institutions will use the new money to invest in companies or to lend to individuals, and if they are willing to do this then the money makes its way out into the economy and boosts the supply of money in circulation.

The goal of QE is to stimulate demand for goods and services, in other words to get consumers and businesses spending again. QE can provide a boost to GDP (gross domestic product) because GDP is a measure of how much a country spends, and if you push enough cheap money into an economy people will borrow and spend it. And if that doesn’t work, the government itself can simply go on a spending spree and build bridges to nowhere. Just look at the repeated attempts China has made to stimulate its growth.

But QE can’t create true economic prosperity

Although it is generally accepted that GDP provides a decent measure of a country’s wellbeing, the fact is that during a period of massive debt expansion (such as we have seen over the past 30 years) GDP growth gives very misleading signals. That’s because there is a huge disconnect between what economists and politicians seek, i.e. GDP growth, and what the general population seeks, i.e. a better standard of living.

True wealth and prosperity is not created by consumption, or spending, it is created by saving (which involves under consumption) and then using those savings to invest in new businesses that create goods and services that people are willing and able to buy. That is what gives us a better standard of living and true prosperity.

As the editor of City AM, Allister Heath, puts it, “…printing money is not a permanent solution. In the long run, real sustainable growth comes from entrepreneurs inventing better ways of conducting business, from investment in productivity enhancing capex financed from savings, and from more people finding viable jobs.”

Consumption may give the illusion of prosperity for a time, however if that consumption is not funded from savings and rather requires that consumers, businesses or governments take on debt, then it is merely temporary. Sooner or later the consumption will have to be reduced in order to repay the credit cards, home loans or other sources of funding.

A broken economic model

The bottom line is that our economic model is broken. We have created an economy that is deemed prosperous only when we spend ever greater amounts of money. Yet five years after the flaws in this model became obvious to anyone that cared to look, there is still no acknowledgement of the fact that it was excessive spending (thanks to low interest rates and lax lending standards) that fuelled the boom that led to the bust.

What’s needed first and foremost is acknowledgement of the fact that increased spending does not equate to a better standard of living, and therefore GDP growth and economic prosperity are not the same thing. Only then will we stop trying to borrow and spend our way out of debt crisis, and move towards a new economic model that rewards and encourages saving and investment.

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>