Wednesday

8th Feb 2023

Analysis

Draghi hopes for quiet life after QE calms nerves

  • Draghi's (r) bond-buying scheme has calmed fears about the eurozone (Photo: europarl.europa.eu)

Mario Draghi should enjoy a quiet afternoon on Wednesday (15 April) when he addresses reporters following the European Central Bank’s monthly meeting of its governing council.

This is a good thing. As a rule, central banks only find themselves on the front-pages when something is going wrong. Fewer column inches suggests that the European economy is starting to function again.

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Last month the ECB began its unprecedented quantitative easing programme which aims to buy up to €1 trillion of government bonds by September 2016. The effect has been to calm markets.

The programme is not popular in all quarters. At a European Parliament hearing with Draghi last month, German centre-right MEP Burkhard Balz complained that flooding an extra €1 trillion into the money markets would depress the already weak interest rates on savings. Draghi replied that the ECB was “aware of the situation which savers have to bear with” but that “as confidence and growth returns so will interest rates”.

He said that the bank’s programme, which involves buying €60 billion of public sector bonds each month until September 2016, was on track, noting that “we see no signs that there will not be enough bonds for us to purchase”.

Critics of the programme would “eventually reach a point of willing acceptance,” he told deputies. In the weeks since then, Draghi’s confidence has, so far, been borne out.

Despite some market fears that it would not have enough bonds to buy, the ECB hit its €60 billion target in the first month. Typically, the bank is still giving itself some wiggle room. Yves Mersch, a member of the ECB’s executive board suggested in an interview last week that the next September deadline was not set in stone, and could be brought forward if the economy rebounds faster.

For the foreseeable future, the bank plans to buy €60 billion worth of bonds per month, including €50 billion under its Public Sector Purchase Programme (PSPP). Of this, €6 billion per month will be spent buying bonds issued by the EU’s own institutions - including its two bailout funds, the European Commission and the European Investment Bank. The remaining €44 billion is assigned to bonds issued by governments and by national development banks.

Since the launch of QE the value of the euro has remained relatively steady against the dollar, having fallen to its lowest level against the greenback in a decade, while the economic prognosis for the eurozone has improved. The ECB has revised its growth forecasts for 2015 up by 0.5 percent to an almost respectable 1.4 percent for the eurozone.

With the Frankfurt-based bank showing adroit public relations skills by publishing the minutes of its March governing council meeting, a demand repeatedly made by MEPs in their annual report on the ECB, its stock has rarely been higher.

But it would be foolish to overstate the importance of the ECB’s great bond-buying exercise. For one thing, €1 trillion may sound like a lot of euros but it is proportionally smaller than the programmes implemented by the US Federal Reserve and the Bank of England.

The US Federal Reserve’s balance sheet was more than doubled from $2 trillion to $4.5 trillion as a result of the three quantitative easing programmes it has launched since December 2008.

Meanwhile, the Bank of England’s QE programmes expanded its balance sheet from 6 percent to 24 percent of the UK’s GDP.

In comparison to these, the ECB’s planned €1.1 trillion stimulus looks more like a water pistol than a big bazooka. The programme will increase the ECB’s liabilities from €3 around trillion to €4 trillion over the next 18 months, a similar level to that seen in 2012. The bank has already built up a huge balance sheet of lending to commercial banks.

The Brussels-based Bruegel thinktank estimates that both the Federal Reserve and the Bank of England received interest on its bond purchases worth 0.5 percent of economic output, more than ten times the amount of revenue it expects to be spread around eurozone capitals by next September.

This is one of the reasons why analysts do not expect expect the ECB’s QE programme to have a transformative effect on the bloc’s economy.

For another, QE programmes are normally aimed at reducing the cost of borrowing to get money flowing round the economy. But Europe’s economic problem is not the cost of money. The days when Italy and Spain were facing yields of 6-7 percent on ten year bonds are gone. Instead, it is confidence that needs to be boosted.

But for the moment, the only headache for the ECB is how to maintain its delicate balancing act with Greece. The ECB announced last week that it would increase the size of its emergency cash facility for Greek banks by €700 million to €71.8 billion and could well fractionally increase the facility again.

Exposed to just over €100 billion in liabilities in Greece, the ECB would be the biggest single loser from a Greek default. Waiting for a political breakthrough between eurozone ministers and Greece is the only thing keeping Draghi from his beauty sleep.

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