The Limits of Quantitative Easing on Show as the U.K. Deflates

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Seven years after Lehman Brothers' bankruptcy, the threat of deflation (or disinflation) remains hard to shake off, even after hundreds of billions' worth of securities purchases by the major central banks (even trillions, in the case of the U.S.' Federal Reserve).

This columnist accepts that these purchases have served a purpose -- whether in the U.K., the eurozone, or the U.S. -- but maintains that there are limits to their effectiveness.

This morning, the U.K.'s Office for National Statistics released figures showing that the general price level recorded a small drop of 0.1% in September. That might seem negligible, and in truth, it isn't cause for alarm. Nevertheless, it is only the second negative reading since 1960 (worse, the first time was this past April).

Since March 2009, the Bank of England has purchased securities -- mainly U.K. government debt ("gilt-edged securities," or "gilts") -- in the amount of GBP 375 billion. One of the specific goals of this so-called "quantitative easing" program was to avoid inflation undershooting the Bank's 2% annual inflation target.

As the following graph demonstrates, the U.S. and U.K. inflation rates have been tightly correlated since Lehman's failure (the blue line is a plot of the year-on-year inflation rate in the U.S.):

Certain Federal Reserve policymakers have been signaling their willingness to implement the first post-crisis rate rise before the year is out, but financial markets aren't convinced. Today's prices in the Fed Funds futures market peg the probability of a 2015 rate rise at 41%.

Naturally, the Federal Reserve bases its decision on U.S. economic data, but today's negative number out of the U.K. will not have escaped its attention. The Bureau of Labor Statistics releases U.S. CPI (consumer price inflation) data for September this coming Thursday at 8:30 a.m. EDT. The consensus estimate calls for a 0.1% month-on-month decline.

Here's where the U.S. dollar stands in relation to other major currencies as of Tuesday afternoon:

Source: Bloomberg as of 3:24 p.m. EDT on Oct. 13, 2015. CAD = Canadian dollar. GBP = British pound.