5
takeaways on the ECB’s bigger bazooka
From
now on, the eurozone’s anti-crisis arsenal won’t rely on interest
rates.
By PIERRE BRIANÇON
3/10/16, 8:01 PM CET
PARIS — In what
sounded at times like a word-for-word repeat of past performances,
European Central Bank President Mario Draghi tried yet again to
convince financial markets that lower interest rates and a bigger and
better quantitative easing program would help boost the eurozone’s
inflation and its all-too-weak recovery.
But his loudest
message was: This is as low as interest rates will get.
The ECB’s package
of measures unveiled Thursday was bolder than most analysts had
forecast and included steps to mitigate the impact of deeper negative
rates on the banking industry’s profits.
As in the past, the
euro immediately sank on the news. But it bounced back when Draghi
said in his explanatory news conference that the ECB had done all it
could in terms of lowering interest rates. Even though the value of
the euro is not a main target of the central bank, a weaker eurozone
currency would help push up inflation.
The misunderstanding
between the ECB and foreign exchange markets is not new. Still, the
euro — which is up almost 4 percent against the dollar since the
beginning of the year — is a sign of the strong headwinds the ECB
is facing.
Here are five other
major implications of the ECB’s latest action:
1. Lower for longer,
more and (maybe) better
The main reason for
Thursday’s rather aggressive decision is that forecasts for both
growth and inflation in the eurozone are much worse than when the
ECB’s governing council last met in December.
The ECB now sees
inflation at 0.1 percent this year (three months ago, the forecast
was 1 percent) and 1.3 percent in 2017. The goal of reaching the
official target of “levels below, but close, to 2 percent” seems
to get more elusive by the month.
To boost inflation,
the central bank as expected went deeper into negative territory by
taking the interest rate on its so-called “deposit facility”
(what banks use to park their excess reserves overnight at the ECB)
to -0.4 percent, from -0.3 percent. This is in theory supposed to
lower short-term interest rates and push banks to use their reserves
in other, more productive ways — like lending.
What wasn’t
expected was that the ECB also cut its main refinancing rate (the
rate at which banks borrow from it) to 0 percent from its current,
historically low 0.5 percent. That should also help bring overall
rates lower, and cushion the blow for banks.
Expanding the
asset-buying program (“quantitative easing”) from €60 billion
to €80 billion a month is also an aggressive step, especially as
the ECB decided to expand the scope of securities it would buy on the
market. It will now purchase corporate bonds as well as government
ones, which will remove the risk that the central bank might soon run
out of eligible assets to buy.
2. Message to the
banks: we care but stop whining …
Eurozone banks and
industry lobbyists have started complaining about the risks posed by
negative interest rates to lenders’ profitability. ECB officials in
recent weeks had indicated that they were not tone deaf and were
conscious of the risks. “The governing council is increasingly
aware of the complexities this measure entails,” Draghi
acknowledged. But ECB Vice President Vitor Constancio denied on
Thursday that “on the aggregate level,” negative interest rates
hurt banks. His explanation: first, lower interest rates have pushed
down the cost of bank’s funding; second, they helped the economic
recovery and thus the banking system; and third, they have boosted
the value of the bonds banks hold in their portfolios through capital
gains.
The overall benefit,
however, can’t hide the fact that, as Draghi said, banks in the
monetary union face totally different market conditions and national
regulations. This means some of them are hurt by the difficulty of
passing on negative interest rates to their own customers (who could
always opt for cash, if charged for their deposits). So even if the
banking system’s aggregate profitability hasn’t been hurt so far,
“it won’t be true forever,” the ECB president admitted.
3. … and start
lending more
Credit conditions
have improved in the eurozone along with the economic recovery, but
the ECB wants to go further. It will launch a second wave of “target
long-term refinancing operations” — cheap money that eurozone
banks will be able to borrow over four years, with interest rates
reduced in proportion to the money actually lent to businesses. That,
too, should help soothe the banking sector’s concern as the first
wave of refinancing operations were deemed a success. Without giving
an estimate, Draghi said he expected a “significant” uptake from
the banks for ‘TLTRO II,’ which would contribute to unclogging
credit channels in economies that need it most.
4. Nearing the end
of the monetary road
“From today’s
perspective, we don’t anticipate it will be necessary to reduce
rates further:” That sentence seemed to spook foreign exchange
markets, which seized up on fears that the ECB had run out of
measures, even though Draghi also said he saw interest rates
remaining “very low for a very long time” and way beyond the
planned end of quantitative easing in 2017.
Draghi protested
that the ECB had not exhausted its anti-crisis arsenal but said that
from now on, the bank would rely on “other tools” than interest
rates — namely, asset purchases — to help the recovery along. He
denied that the ECB governors had ever debated, let alone considered,
a “helicopter money” policy of directly financing corporations
and households that some economists are advocating. He only said it
was an interesting academic idea.
Considering the
tensions provoked by QE in the first place, it’s unlikely that the
ECB would ever go down this route. But as Draghi himself said on
another topic (that is, interest rates), “new facts could change
the outlook.”
5. Draghi’s answer
to critics: what if we hadn’t acted?
Draghi was spared
the negative vote on Thursday of Bundesbank President Jens Weidmann,
the ECB’s chief hawk who has acted as leader of the opposition to
his colleague’s policy in the last four years. Under rotation rules
in the governing council, Germany didn’t get to vote this time. At
the press conference, the ECB president used German to characterize
the slogan of those who have opposed his policies: “nein zum allen”
(“no to everything” or a do-nothing policy). Where would we be
today if we hadn’t acted, he asked, before answering his own
question: in a state of “disastrous deflation.”
That general truth,
however, leaves room for a more nuanced appreciation of the tensions
and oppositions that have surfaced in recent months within the ECB.
The negative interest policy, for one, has been a source of unease
for even some of the supporters of the Draghi line. If the ECB keeps
finding it difficult to fulfill its only legal mandate — an
inflation rate near to 2 percent — and must devise ever-more
imaginative ways to reach its goal, policy differences within its
executive board and governing council will surely move beyond the old
hawks/doves division.
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