Back in January, ECB President Mario Draghi doubled down on his earlier commitment to do “whatever it takes” to prop up the European economy with easy money.” “There are no limits to how far we’re willing to deploy our instruments,” Draghi swore in January.
He wasn’t joking. Today, Draghi and the ECB resorted to what some are calling the “kitchen sink” option, and what others are calling the “bazooka.”
You don’t have to be an expert on monetary policy to understand what these metaphors are trying to tell you.
According to CNBC:
In light of cuts to the growth and inflation outlook, the ECB announced on Thursday that it had cut its main refinancing rate to 0.0 percent and its deposit rate to minus 0.4 percent.
“While very low or even negative inflation rates are unavoidable over the next few months as a result of movement in oil prices, it is crucial to avoid second-round effects,” Draghi said in his regular media conference after the ECB statement.
The bank also extended its monthly asset purchases to 80 billion euros ($87 billion), to take effect in April. In addition, the ECB will add corporate bonds to the assets it can buy — specifically, investment grade euro-denominated bonds issued by non-bank corporations. These purchases will start towards end of the first half of 2016.
Eighty billion euros? That’s a huge number. Some may remember that during QE3 — the largest of the Quantitative Easing programs — in 2013, the Fed was making $85 billion per month in asset purchases.
It eventually trimmed back to $75 billion and then $65 billion. In that time, the Fed amassed a balance sheet of more than $4 trillion.
What we got out of that spending spree was the humdrum economy we have today. It’s an economy so weak that the Fed keeps the federal funds rate at 0.5 percent, nor is the Fed getting rid of that huge amount of assets amassed.
In other words, the ECB is doing its own QE3, but with even lower rates, since, unlike the Fed, the ECB turned to negative rates a while ago.
Moreover, the ECB may soon be paying banks to borrow money from the central bank. Reuters reports:
The European Central Bank could pay banks to borrow from it provided they lend on the funds to households and companies, ECB President Mario Draghi said on Thursday, outlining a new loan programme intended to boost credit growth.
But, just as the Bank of Japan’s recent move to negative interest rates looked like an act of desperation, the ECB’s move has a similar feel to it.
The whole thing is an effort to spur inflation in Europe’s economies, but it just hasn’t been working. As Frank Hollenbeck recently wrote:
The goal of such rates is to force banks to lend their excess reserves. The assumption is that such lending will boost aggregate demand and help struggling economies recover. Using the same central bank logic as in 2008, the solution to a debt problem is to add on more debt. Yet, there is an old adage: you can bring a horse to water but you cannot make him drink! With the world economy sinking into recession, few banks have credit-worthy customers and many banks are having difficulties collecting on existing loans.
The economy’s too weak to the volume of lending that the ECB wants out of commercial banks. So, the ECB may be planning to pay banks to lend, but who are the banks going to lend to?
Negative rates may also be providing an incentive to hoard cash.
So, the obsession with deflation among central banks is leading them to try the same thing over and over again with nothing to show for it, but continued economic stagnation.
On the other hand, an interesting thing is happening. As the ECB and the Bank of Japan have loosened the easy-money spigot even more, their respective currencies have actually gained on other currencies. The reasoning is apparently that the latest moves represent the bottom to how low the central banks are willing to go. That is, investors are betting that after this, the central banks will start to tighten.
Maybe. But we’ll see. Right now, we’re only talking about “bazookas” and “kitchen sinks.” We haven’t even started talking about “heavy artillery” or “going nuclear.”
It ain’t over ‘til it’s over, and as George Magnus wrote today, “helicopter money” may be next: “If today’s kitchen sink episode ends with a whimper, as seems likely, and governments continue to stand aside from the economic fray, Europeans may demand still more of their central bank.”
