Thursday, June 5, 2014

ECB can cut rates more or use unconventional measures

    The European Central Bank (ECB), which earlier today cut its benchmark rate by 10 basis points and introduced a negative deposit rate for banks, said it could cut rates even further if necessary and held out the prospect of some form of quantitative easing if inflation remains too low for too long.
    In addition to cutting its refinancing rate to a new historic low of 0.15 percent,  the deposit rate to minus 0.10 percent and the marginal lending rate by 35 basis points to 0.40 percent, the ECB launched a combination of measures in an aggressive attempt to kickstart sluggish growth.
    The package includes targeted longer-term refinancing operations (TLTROs) aimed at boosting bank lending to households and non-financial companies, an extension of the ECB's main refinancing operations as fixed rate tenders with full allotment at least until the end of December 2016, the suspension of the sterilization of liquidity injected under the previous Securities Markets Program and intense preparatory work to pave the way for the ECB to purchase asset-backed securities.
    ECB President Mario Draghi had all but promised last month that the ECB would take action today when he said that policymakers were comfortable acting in June when a new forecast was available.
    In addition to today's raft of measures, Draghi said "if required, we will act swiftly with further monetary policy easing" and repeated that the ECB council is "unanimous in its commitment to using also unconventional instruments within its mandate should it become necessary to further address risks of too prolonged a period of low inflation."

    This is a clear sign that the ECB is ready to embark on some form of asset purchases - such as that used by the Bank of Japan, the Bank of England and the U.S. Federal Reserve - despite the complication of buying bonds in 18 different national markets.
    The trigger for today's aggressive monetary easing is lower than expected inflation and economic growth in the 18-nation euro zone.
    Inflation in May fell back to 0.5 percent after rising to 0.7 percent in April from 0.5 percent in March and is forecast to only gradually rise over the next two years, "thereby underpinning the case for today's decisions," Draghi said.
    The ECB staff revised downwards its forecast for average 2014 inflation to 0.7 percent from its March forecast of 1.0 percent, its 2015 forecast to 1.1 percent from 1.3 percent and its 2016 forecast to 1.4 percent from 1.5 percent - inflation rates that are well below the ECB's target for inflation to be close to, but below 2.0 percent.
    Draghi described the risks to this outlook as broadly balanced, but added that the ECB will "closely monitor the possible repercussions of geopolitical risks and exchange rate developments."
    While medium to long-term inflation expectations for the euro area remain anchored to the ECB's inflation target, Draghi is not taking these expectations for granted and said, the "Governing Council is strongly determined to safeguard this anchoring."
    A strong euro exchange rate has added downward pressure on inflation in the last year, but since Draghi in May said ECB policymakers were comfortable taking action in June, the euro has weakened and fell further in response to the rate cuts.
    After rising by 8.6 percent to 1.39 to the U.S. dollar from 1.28 today in March 2013, the euro started to weaken on May 8 and hit 1.35 earlier today before bouncing back to 1.36 to the dollar.
    The recovery of the euro zone economy this year after recession in 2012 and 2013 is also looking weaker than expected.
    In the first quarter of this year, Gross Domestic Product expanded by less-than-expected 0.2 percent from the previous quarter for annual growth of 0.9 percent, and Draghi said recent data signaled "moderate" growth also in the second quarter, though domestic demand should continue to be supported by the easy monetary policy and better financing conditions, gains in disposal income from lower energy prices.
    The ECB staff revised downwards its projection for GDP to expand by 1.0 percent this year, down from its March forecast of 1.2 percent, but revised upwards its 2015 forecast to 1.7 percent from 1.5 percent and maintained the 2016 forecast of 1.8 percent growth.
    The risks to the economic outlook, however, remain on the downside, Draghi said. He pointed to geopolitical risks, developments in emerging market economies and global financial markets, weaker than expected domestic demand, insufficient structural reforms and weaker export growth.
    The raft of stimulative measures launched today by the ECB is aimed at boosting inflation and lending to businesses in the euro zone.
    Unlike the United States, most businesses in the euro area rely on bank loans instead of issuing bonds in capital markets. But euro area banks are not only still saddled with bad loans issued before the global financial crises but also under pressure from global regulators to boost their capital ratios.
    This has presented the ECB with the challenge of how to funnel money directly to businesses instead of just force-feeding more funds into banks that then park their money at the ECB.
    The ECB's initial answer is the negative deposit rate and a series of targeted longer-term refinancing operations (TLTROs) aimed specifically at boosting bank lending to households and non-financial companies. 
    But cutting the rate for bank deposits to minus 0.10 percent, the ECB is effectively charging banks for leaving their money as reserves at the ECB. The new rate, which takes effect June 11, will also apply to reserves that are in excess of the minimum reserves that banks have to hold with the ECB.
    The move is aimed at encouraging banks to lend their funds out instead of just holding on to them. Other central banks, such as Sweden's Riksbank and Denmark's Nationalbank, have also used negative deposit rates during critical times, but the ECB is the first major central bank to attempt this.
    The ECB will also carry out two 4-year TLTROs worth some 400 billion euros in September and December but lenders cannot use the money for house purchases.

    Initally, banks will be able to borrow 7 percent of their total loans to non-financial companies in the euro area and then from March next year through June 2016, banks will be able to borrow up to three times the amount of their net lending to the non-financial private sector each quarter.
    The interest rate on the TLTROs will be fixed over the life of the loan at the ECB's refinancing rate, plus 10 basis points, or only 0.25 percent.
    The ECB will check that the loans are really going to boost economic activity and if banks don't meet certain conditions, they will have to pay back the loans in September 2016.
    Other initiatives includes an extension of the existing conditions for collateral that banks have to post for loans at least until September 2018 and stopping the regular tenders that have been used to withdraw money from the ECB's earlier purchases of government bonds, a move that should inject some 170 billion of euros in the markets.
    Importantly, the ECB is also getting ready to breathe life back into the market for asset backed securities (ABS), a market that has been moribund since the global financial crises when they were blamed for their role in causing the crises.
    U.S. banks had bundled mortgages into securities, but when it became clear that the mortgages, or the assets in the security, were souring, the huge market for ABS dried up overnight, triggering liquidity shortages worldwide.  
    The ECB is now trying to restart this market and central banks in the euro system will consider purchasing "simple and transparent asset-backed securities with underlying assets consisting of claims against the euro are non-financial private sector."
    As in the United States, the ECB is not finding much help from fiscal policy in stimulating growth.     
    In its latest forecast, the ECB sees the aggregate euro area general government deficit declining to 2.5 percent of GDP in 2014 from 3.0 percent in 2013 and then to 2.3 percent in 2015 and 1.9 percent in 2016.
    General government debt is projected to peak at 93.4 percent of GDP this year and then gradually fall to around 91 percent in 2016.

1 comment:

  1. The June 5, 2014 Mario Draghi ECB Announcement of NIRP and Targeted LTROs, produced a stunning moral hazard based prosperity in fiat money, and produced the zenith of liberalism, defined as freedom from the state, as investors drove World Stocks, VT, Nation Investment, EFA, Global Financials, IXG, and Dividends Excluding Financials, DTN, to produce peak Equity Wealth, while Peak Currency Wealth, DBV, and CEW, was achieved in the third week of May 2014, and Peak Credit Wealth, AGG, was achieved the week ending May 30, 2014.

    The age of currencies and the era of credit came to an end the week ending June 6, 2014, as stock investors drove Equity Investments to their grand finale finish, manifesting as three long white candlesticks in the weekly chart of the S&P 500, SPY, at a time when the bond vigilantes, called the Interest Rate on the US Ten Year Note, ^TNX, higher to 2.59%.

    Peak Equity Wealth is seen in the chart of World Stocks, VT, relative to Aggregate Credit, AGG, that is VT:AGG, rising parabolically, and then peaking in value in the week ending June 6, 2014.

    The Mario Draghi ECB announcement of NIRP and targeted LTROs produced a blow off stock market top on Friday June 6, 2014, and at the same time has birthed the Beast Regime, to replace the Creature from Jekyll Island, which ruled in liberal policies of investment choice and in schemes of credit. Soon out of the waves of Club Med sovereign, banking, and corporate insolvency, it will rise to rule the world in authoritarianism, specifically in policies of diktat in every one of the world’s ten regions, and in schemes of totalitarian collectivism in all of mankind’s seven institutions.

    The age of diktat and the era of debt servitude commenced on the June 5, 2014, with the mandate of Mario Draghi for a 0.1% surcharge on money held overnight at the ECB. His word, will and way, will compel the debt serf, to experience economic life in regional fascist leader’s policies of regional economic governance, which establish regional security, stability and sustainability.

    Thus the Mario Draghi announcement of NIRP and targeted LTROs was both a climax event, one of peak wealth. and also a genesis event, one of the beginning of a new economic age of authoritarianism.