A feature of the credit crunch and the Euro area crisis has been the behaviour of the European Central Bank or ECB. It’s role has massively expanded from the official one of aiming for an inflation rate ( CPI and thereby ignoring owner-occupied housing) of close to but just below 2%. In fact in his valedictory speech the former ECB President Jean Claude Trichet defined it as 1.97%. However times have changed and the next President upped the ante with his “Whatever it takes ( to save the Euro) speech giving the ECB roles beyond inflation targeting. But Mario Draghi also regularly told us that the ECB was a “rules-based organisation.”
On 18 March 2020, the Governing Council also decided that to the extent some self-imposed limits might hamper
action that the Eurosystem is required to take in order to fulfil its mandate, the Governing Council will consider
revising them to the extent necessary to make its action proportionate to the risks faced. ( ECB )
Well not those rules anyway which limited purchases to 33% of a bond. Oh and the rules against monetary financing seem to be getting more shall we say flexible too.
The residual maturity of public sector securities purchased under the PEPP ranges from 70 days up to 30 years and 364 days. For private securities eligible under the CSPP, the maturity range is from 28 days up to 30 years and 364 days. For ABSPP and CBPP3-eligible securities, no maturity restrictions apply. ( ECB)
There were rules which meant that Greece would not qualify for QE too but as we noted before they have gone.
In addition, the PEPP includes a waiver of the eligibility requirements for securities issued by the Greek Government.
So as you can see the rules are only there until they become inconvenient. What we do not so far have unlike as has been claimed by some if that this policy is unlimited, although of course after all the ch-ch-changes it would hardly be a surprise if the new 750 billion Euro programme ended up being larger. Oh and they join their central banking cousins with this.
The additional temporary envelope of €750 billion under the PEPP is separate from and in addition to the net purchases under the APP.
Ah Temporary we know what that means…..
Bond Markets
These will be regarded as a success by the ECB as for example the ten-year yield in Germany is -0.44%. So in spite of the announcement of an extra 350 billion in debt to be issued Germany continues to be paid to borrow. So the ECB will regard itself as essentially financing the new German fiscal policy.
At the other end of the spectrum is Italy where the public finances are much worse. But the ten-year yield is 1.3% which is far below the nearly 3% it rose to after ECB President Lagarde stated that it was not its role to deal with “bond spreads” managing in one sentence to undo the main aim of her predecessor. As you can see the bond yield is under control in fact very strict control and I will return to this later.
Fiscal Policy
The ECB will be happy to see individual countries loosen the purse strings and especially Germany. The latter is something it has been keen on as the credit crunch develops. It is after all the largest economy and has had the most flexibility to do so. It would also help with the imbalances in both the Euro and world economies. However the collective response will have disappointed it.
We take note of the progress made by the Eurogroup. At this stage, we invite the Eurogroup to present proposals to us within two weeks.
At a time like this that seems a lot more than just leisurely. From the US Department of Labor.
In the week ending March 21, the advance figure for seasonally adjusted initial claims was 3,283,000, an increase of 3,001,000 from the previous week’s revised level. This marks the highest level of seasonally adjusted initial claims in the history of the seasonally adjusted series. The previous high was 695,000 in October of 1982.
That is for the US and not the Euro area but it does give us a handle on the size of the economic shock reverberating around the world. If it was a drum beat then it would require Keith Moon to play it.
Italy
We have some economic news from Italy but before I get to it we were updated this month by the IMF.
Compared to the staff report, staff have revised the growth forecast for 2020 down from about ½ percent to about ‒½ percent.
Actually that’s what we thought before all this. Please fell free to laugh at the next bit.
Altogether, staff projects an overall deficit of 2.6 percent of GDP in 2020
At some point they do seem to get a grip but then lose it in the medium-term.
Given the escalated lockdown measures and the wider
outbreak across Europe, there is a high risk of a notably weaker outturn. Growth over the medium term is projected at around 0.7 percent, although this too is subject to uncertainty about the duration and extent of the crisis.
I have long been critical of these long-term forecasts which frankly do more to reflect the author’s own personal biases than any likely reality.
If we switch to the Statistics Office we were told this earlier.
In March 2020, the consumer confidence climate slumped from 110.9 to 101.0. The heavy deterioration affected all index components. More specifically, the economic climate plummeted from 121.9 to 96.2, the personal one deteriorated from 107.8 to 102.4, the current one went down from 110.6 to 104.8 and, finally, the future one collapsed from 112.0 to 94.8.
Grim numbers indeed and as they only went up to the 13th of this month we would expect them to be even worse now.
Also there was something of a critique of the Markit IHS manufacturing numbers from earlier this week as this is much worse than indicated there.
The confidence index in manufacturing drastically reduced passing from 98.8 to 89.5. The assessments on order books fell from -15.6 to -23.9 and the expectations on production dropped from 0.7 to -17.1.
Retail too was hit hard.
The retail trade confidence index plummeted from 106.9 to 97.4. The drastic worsening affected in particular the expectations on future business whose balance tumbled from 28.0 to -9.4.
Comment
I have so far avoided the issue of Eurobonds or as they have been rebranded Corona Bonds. Mario Draghi wrote a piece in the Financial Times essentially arguing for them but there are clear issues. One is the grip on reality being displayed.
In some respects, Europe is well equipped to deal with this extraordinary shock. It has a granular financial structure able to channel funds to every part of the economy that needs it. It has a strong public sector able to co-ordinate a rapid policy response. Speed is absolutely essential for effectiveness.
Can we really see the Italian banking sector for example doing this?
And it has to be done immediately, avoiding bureaucratic delays. Banks in particular extend across the entire economy and can create money instantly by allowing overdrafts or opening credit facilities. Banks must rapidly lend funds at zero cost to companies prepared to save jobs.
As to the general precept I agree that people and businesses need help but Mario is rather hoist by his own petard here. After all he and his colleagues wrote out a prescription of negative interest-rates and wide scale QE. There was some boasting about a Euroboom which quickly faded. Now the Euro area faces the consequences as for example the Euro exchange rate is boosted as carry trades ( to take advantage of negative interest-rates) get reversed.
Meanwhile according to his former colleague Vitor Constancio negative interest-rates are nothing to do with those who voted for them apparently.
You have certainly noticed that market interest rates have been going down for 40 years, well long before CBs were doing QE and buying investment grade bonds.
If so should they hand their salary back?
Let me express my sympathy for those suffering in Italy and elsewhere at this time.