Draghi to talk the talk, no walk yet

December 4, 2014


The European Central Bank meets today with the debate about quantitative easing running hot after Mario Draghi declared “excessively low” inflation had to be raised fast and that the ECB would act more forcefully if its existing efforts to pump money into the ailing euro zone economy fall short.

His number two, Vitor Constancio, has since fleshed out the timetable saying a decision on whether to take the ultimate policy leap will be made in the first quarter of next year. The concomitant of that is expectations of action today or even in January are wide of the mark.

The ECB won’t start a sovereign bond-buying programme until it has had time to gauge the impact of its programme to buy covered bonds (underway with tepid results so far), asset-backed securities (just launched) and a new round of cheap four-year loans which will be offered to banks next week.

Given the ECB is moving to a new six-weekly timetable of policy meetings, that makes the March meet the favourite for big decisions if the balance sheet hasn’t expanded sufficiently. The prior gathering, in late January, looks too early for the evidence to have been sifted.

Despite internal opposition, the numbers suggest QE will come. The ECB has set itself the goal of expanding its balance sheet – buying stuff from banks and others in return for cash in the hope it will be lent into the economy – by up to 800 billion euros back to 2012 levels. With interest rates essentially at zero that has become the monetary policy target.

Next week’s second round of cheap loans is a central part of that plan. The first “TLTRO” was taken up only to the tune of 83 billion euros. Forecasts for this tranche hover around the 150 billion mark, leaving the ECB well short of the 400 billion it was prepared to offer in total. Separate schemes to buy up covered bonds and ABS (bundled up loans) are in their infancy but have so far yielded around 18 billion euros.

So the ECB will likely end the year having succeeded in expanding the euro zone’s monetary base by 300 billion euros at best. At the same time, proceeds from a previous LTRO operation are being paid back with the net result that the balance sheet could even shrink.

Today, Draghi’s words will be minutely parsed as always and fresh economic forecasts from ECB staff are likely to point to the need for more action with further downgrades of the growth and inflation numbers.

The Bank of England’s policy meeting will be uneventful in comparison with the timing of a first UK interest rate rise getting pushed back due to low inflation and an absence of wage growth.

Russia’s economic plight gets ever more acute. Officials admit the budget – which was based on $100 oil (it’s now not much above $70) – will have to be pared. They have also scrapped estimates of 1.2 percent growth in 2015 and now say next year will be one of recession. Despite all that Vladimir Putin looks unassailable with stratospheric popularity ratings.

Russia’s president gives his annual state of the nation speech in front of both chambers of parliament today and is under pressure to come up with some sort of economic remedy.

Previous pledges to wean the economy off its dependence on oil and natural gas exports have come to little. Capital flight is expected to soar far above $100 billion this year and some analysts expect capital controls though Moscow denies this. The alternative is for the central bank to continue to burn through reserves defending the rouble from freefall and/or jack up interest rates, the last thing a struggling economy needs.

Sweden’s prime minister has called a snap election for March after parliament rejected his centre-left minority government’s first budget. Whether it will rebound on the centre-right opposition to have teamed up with the far right Sweden Democrats to vote down the budget remains to be seen.

In the short-term, low debt and solid growth are likely to outweigh investor concerns about political instability.
The Swedish central bank’s twice-yearly financial stability report is likely to highlight the threat from high levels of household debt. The threat of deflation may also feature, though the Riskbank has dismissed the idea of a Japan-style downward spiral with growth still robust.

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