It’s debatable whether or not the most recent move of the European Central Bank was unexpected, but it certainly sparks a lively discussion on the open market. Not only did the ECB reduce the lending rate on the refinancing facilities from 0.05% to 0% which basically means the banks that are part of the Eurosystem can borrow money for free, it also reduced the interest rate on the deposit facility by 0.10% to a negative 0.40%. Yes, -0.40%.
As if this wasn’t enough, the ECB also announced it’s increasing the pace of the asset purchase program (‘APP’) by 20 billion Euro per month, to 80 Billion per month. This means the central bank will pump an additional 960 billion euro per year in the financial system, to force the banks to change their lending patterns. What’s really interesting is the fact the ECB is now also ready to start buying euro-denominated bonds issued by ‘non-financial entities’, which basically means the ECB will be buying corporate bonds.
That’s interesting. The original intent of the ECB was to use the asset purchases to increase and improve the liquidity in the European banking system. However, we already warned in September he trickle-down effect of these asset purchases were insufficient, as the real economy saw just a fraction of the total amount spent on the asset purchases. The ECB has now reached the same conclusion, six months later than we did, and adding the corporate bond sector to its Asset Purchase Program-list was the only logical step. You can’t say we didn’t warn you!
The move to cut the interest rates and to increase the size of the asset purchase program to in excess of $1 Trillion (!) per year shows Draghi was willing to aggressively pursue a monetary expansion in the Eurosystem, but the question now is whether a cut from -0.3% to -0.4% will be sufficient to trigger that. The difference is only marginal, but what’s even worse is the fact Draghi himself has signaled he has now arrived at a point where he’s with his back against the wall. He acknowledged that future rate cuts would only happen under ‘extreme circumstances’ and whilst this obviously is a very grey zone, as ‘extreme’ isn’t really an objective measure, Draghi seems to be surrendering. A quote from the press conference:
‘helicopter money. It's a very interesting concept that is now being discussed by academic economists and in various environments. But we haven’t really studied yet the concept. […] From today's perspective, and taking into account the support of our measures to growth and the return to our price stability objective, we don't anticipate that it will be necessary to reduce further rates. ‘
This basically is Mario Draghi throwing the towel. If a negative 0.40% doesn’t work, he seems to have no idea what will work, and the ECB is close to giving up on its monetary policies as the theories clearly aren’t working in the real world. Also keep in mind that not lowering the interest rates any further does NOT exclude the ECB reverting to a helicopter money strategy…
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