BlogSpot - November 17th, 2014
The EZ on the road to QE?
Is the ECB preparing for QE? While announcing the start of the asset purchase program, Mario Draghi confirmed willingness to use additional unconventional instruments to increase the ECB’s balance sheet. For Sony Kapoor and EuroIntelligence, to reach optimal inflation, the ECB will need much more than the announced balance-sheet expansion—looking at figures of at least €2.5 trillion. At a Banque de France symposium, central bankers, among whose Janet Yellen, insisted on the need to use all available tools to fight low growth and deflation. EuroIntelligence reports on differences within the ECB’s executive board reflected in recent speeches by Mario Draghi (“Unconventional measures might entail the purchase of a variety of assets, one of which is sovereign bonds”) and Yves Mersch (“It cannot be dismissed out of hand that a central bank (…) must be careful that its monetary policy is not dominated by fiscal constraints”).
Reuters confirms that ECB may move into the corporate bond market and then maybe taking the ultimate step of government bond purchases in early 2015 (also reported by Bloomberg). Andrew Bosomworth writes that this is needed to boost effectively its balance sheet. Luis Garicano and Lucrezia Reichlin, in a VoxEU article, argue that the main issue with QE in the eurozone is that the ECB faces a quandary on what to buy. They propose that the ECB buys ‘Safe Market Bonds,’ i.e., synthetic bonds formed by the senior tranches of EZ national bonds combined in GDP-weighted proportions. The ECB would merely announce the features of the synthetic bonds it will purchase. The market would create the bonds in response, thus avoiding new EZ-level institutions or funds. For Peter Kazimir and Yanis Varoufakis, the ECB should consider buying European Investment Bank bonds if it eventually decides to go for quantitative easing. The EIB could finance an investment program through issuing bonds that would then be bought up on secondary markets by the ECB (reported by Reuters).
In a FreeExchange online roundtable, economists debate the role of the ECB in supporting the euro area recovery. Paul de Grauwe writes that insufficient actions from the ECB derived from a wrong assessment of the crisis, focusing on the supply-side and driven by German rethoric. This is reflected in recent articles (i) by Philip Plickert (Bundesbank) (hat-tip Eurointelligence)—a large asset purchase program would trigger distortions and bubbles. In addition, it could discourage eurozone governments to undertake extensive structural reforms; and (ii) to some extent by Jean Pisani-Ferry, even if the ECB get on a quantitative easing program, such action is unlikely to deliver a major boost because the benchmark 10-year government bonds already yield just 1%. For him, a monetary and fiscal boost is unlikely to address the risks of a triple-dip recession. Structural reform and “green” investment policies are much more needed.
Fiscal policy has an important complementary role. In Project Syndicate, Adair Turner advocates that the only way to stimulate growth and increase inflation without generating higher private or public leverage is to run increased fiscal deficits, permanently financed by central-bank money. Sony Kapoor argues that impact on the real economy will come only if the SGP is relaxed. Draghi’s position on the fiscal side is to maintain the SGP for countries with remaining fiscal imbalances. Flexibility within the rules should allow governments to implement structural reforms to support demand. Ugo Panizza stresses that the real benefit of QE may be to allow for much needed fiscal stimulus. While recognizing that QE may not be very effective with overleveraged firms and depressed demand (see Deutsche Bank's discussion on QE in Europe and the US), he argues that fiscal action is impaired by fears that markets may enact a debt run. Yet, QE, presenting the ECB as a lender of last resort, can prevent this.
Guntram Wolff (Bruegel) makes similar conclusions, from the Japanese examples: first, it is difficult to change expectations, from deflation to inflation; second, monetary policy measures can be controversial and difficult to implement; third, the right articulation with fiscal policy is crucial. And more broadly: early and forceful action is key, with bold and early policies on banking reform and productivity enhancing structural reforms should be part of the policy package.
A new credit line for Greece
While the second financial assistance program for Greece will come to an end by the end of the year, the country’s economic performance remains weak. The unemployment rate was 26.4% in July, and 50.7% for youth unemployment (Eurointelligence), in a deflationary context (CPI declined 0.8% on a yearly basis). However, the European commission forecasts a stronger recovery for 2015, with a GDP growth rate of 2.9%, inflation becoming positive at 0.3%, unemployment declining further at 22%, as well as public debt and public deficit (European commission).
The Greek government of Antonis Samaras bet on an exit from the Troika’s supervision. This is a risky proposition for the eurozone, given the high sensibility of financial markets to Greece, and the fact that the country needs an estimated 19M€ in financing in 2015 (Les Echos, in French).
The decision was therefore to implement a “precautionary program” with the financial support of the European Stability Mechanism (Le Monde, in French)—with no additional austerity measures. This “Enhanced Conditions Credit Line” implies close supervision of Greece’s fiscal policy, as well as regular visits in the country. The new program should consist in a loan, ranging from 2% to 10% of country’s GDP, designed to avoid future problems with access to market financing (Eurointelligence). The Greek government will be able to draw on this credit line if the financial markets are not willing to fund it a reasonable rates, provided that further reforms are being implemented, as explained by Christian Odendahl. Jeroen Dijsselbloem (Reuters) calls for the IMF to play a role in the implementation of this new program, supported by Christine Lagarde (Eurointelligence).
Concluding the current review of the program is proving difficult, with Greece facing increased pressure to make concessions in time for the December 8 Eurogroup summit (Kathimerini, hat-tip EuroIntelligence). Divergence concerns: the size of the fiscal gap for next year; the tax arrears bill; pension reform and public sector layoffs.
On the political front, this is a defeat for Prime Minister Antonis Samaras, even if this new program gives much more leeway to the Greek government than under the previous conditions. The bargain over this new program is a very important political stake for Samaras’ government, lagging in the polls behind far-left party Syriza ahead of the February 2015 presidential elections. This is also an important issue for Europe. As noted in an article in the Center for European Reforms, if Syriza is elected, the eurozone would be back in uncharted territory. As relayed by Christian Odendahl: the Mayor of Thessaloniki calls for a national unity government to drive the country out of the crisis with a long-term solution.
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