The big assumption is flawed

The first aim of quantitative easing is to lower borrowing costs. On that front it been undoubtedly successful. Buying bonds restricts the supply and drives up prices, lowering yields. It's mathematics and it meant that any company borrowing or consumer getting a mortgage got a better deal.

The second aim is where the trouble starts. The idea was that investors faced with lower returns will take more risk. It was supposed to be a cascade. Bond buyers would buy equities, equity buyers will shift to new ventures. There are a bunch more shades of gray but it didn't materialize the way central bankers assumed. After a couple steps, the money stopped flowing. Easy money didn't come to entrepreneurs, it didn't come to consumers via credit cards.

Central banks assumed the money would trickle down through the system and would result in more money for lending. More money for investment and more money to start new businesses.

Instead, the money sloshed around at the top and boosted asset prices. That's not bad for the middle class -- all homeowners and anyone with a pension benefitted -- it just didn't work the way it was supposed to.

Here's how Huge Hendry describes it in his farewell letter after shutting down his hedge fund.

"QE rescued the financial system but the liquidity created was distributed to the very rich who have a very low monetary velocity and so the expected inflation fillip never materialised as the liquidity injection came to be stored rather than multiplied by the banking system," he wrote.

What Bernanke assumed would happen is that investors in safe assets would chase the 7% returns they were used to. Instead, they just accepted 2-3% returns. Bill Gross pretty much spells it out monthly in his letters. "Get used to low returns," he says.

It wasn't supposed to be that way.

So why did it happen?



The other assumption was that investors -- and moreso companies -- would behave as they always did. What Bernanke didn't count on was that the shock of the financial crisis changed the collective mindset. Safety, security and survival become the ethos. Rather than investing to grow, companies began to horde capital and avoid risk.

If we are ever to get out of the slow-growth cycle, that mindset is the one that needs to change.

