The ECB’s Monetary Trap


27-05-19 11:04:00,

Authored by Daniel Lacalle,

The European Central Bank continues to disproportionately inflate the debt bubble of the Eurozone, while the economic slowdown of the main European economies worsens. What was designed as a tool for governments to buy time in order to carry out structural reforms and reduce imbalances, has become a dangerous incentive to perpetuate the excessive spending and increase debt under two very harmful and wrong excuses: That there is no problem as long as debt is cheap and that there’s no inflation.

  1. Cheap borrowing is not an excuse to increase debt. Japan has a very low cost of debt and the cost of servicing Japan’s public debt is almost half of the state’s tax revenues. Japan’s debt is 15 times higher than the tax revenue collected by the government in 2018.

  2. The Eurozone official inflation since 2000 shows an increase of 40% in CPI while productivity growth has been negligible and salaries and employment remain depressed.

Monetary policy has gone from being a tool to support reforms to an excuse for not implementing them.

We must remember that the euro is not a global reserve currency. The euro is only used in 31% of global transactions, while the US dollar is used in 88%, according to the Bank Of International Settlements (the total sum of transactions, as the BIS explains in its report, is 200% because each transaction involves two currencies).

Bond yields in the Eurozone are artificially depressed and give a false sense of security that is completely clouded by extremely low interest rates and excess liquidity.

  • The balance sheet of the European Central Bank has been inflated to be 40% of the GDP of the Eurozone, while at the peak of quantitative easing the Federal Reserve’s balance sheet did not reach 26% of the US GDP.

  • The Federal Reserve Treasury purchases never exceeded net issuances. The ECB continues to buy back bonds once they mature despite having multiplied the repurchases and having reached seven times the figure of net issuances .

  •  Sixteen 10-year sovereign bonds in the Eurozone show negative real yields. 

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The ECB’s Quantitative Easing Failure


17-12-18 08:54:00,

Authored by Daniel Lacalle,

The main reason why the ECB quantitative easing program has failed is that it started from a wrong diagnosis of the eurozone’s problem. That the European problem was a demand and liquidity issue, not due to years of excess.

The ECB had been receiving tremendous pressure from banks and governments to implement a similar program to the US’ quantitative easing, forgetting that the eurozone had been under a chain of government stimuli since 2009 and that the problem of the euro-zone was not liquidity, but an interventionist model.

The day that the ECB launched its quantitative easing program, excess liquidity stood at 125 billion euro. Since then it has ballooned to 1.8 trillion euro.

“Only” after 2.6 trillion euro purchase program and ultra-low rates:

1. Eurozone PMIs are atrocious. The euro-zone index falls from 52.7 in November to 51.3 in December, well below the consensus forecast of 52.8. More importantly, France’s PMI plummeted from 54.2 in November to a 34-month low of 49.3.

2. Unemployment in the euro-zone, at 8%, is double that of the US and comparable economies. Youth unemployment rate remains at 15%.

3. Economic surprise has plummeted as the ECB balance sheet reached 41% of GDP (vs 21% of the Fed).

4. More than 900 billion euro of non-performing loans remain in the banking system, which keeps a trillion euro timebomb in its balance sheets (read). A figure that represents 5.1% of total loans compared to 1.5% in the US or Japan.

5. Deficit spending is rising. Government debt to GDP has risen to 86.8%.

6. The number of zombie companies -those that cannot pay interest expenses with operating profits- has soared to more than 9% of all large quoted firms, according to the BIS.

7. Sovereign states have saved around one trillion euro in interest expenses, but have spent all those savings. Today, almost no eurozone country can absorb a modest rise in interest rates, and Italy, Spain, France, Portugal, Slovenia, and others are demanding more spending and more deficits.

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