WITH EURO AREA inflation stuck at 0.5 per cent in March and eight EU members actually suffering from falling prices year on year, the smart money says that ECB boss Mario Draghi is preparing a raft of measures designed to stave off what is known as debt-deflation.
Draghi is set to cut European base rates from their current level of 0.25 per cent to zero.
But in an effort to stave off a Japanese-style permaslump he is examining a raft of other measures. These include a plan for the ECB to charge up to 1.5 per cent for accepting deposits from European banks. The current rate is zero.
There is also growing speculation that Germany may be prevailed upon to permit the ECB to engage in Quantitative Easing (QE). The Germans regard this as equivalent to ‘money printing’ –something which evokes painful memories in Berlin of hyperinflation and the Weimar Republic.
The irony is that it was German insistence that peripheral EU states like Ireland, Spain, Portugal, Greece and others be forced to adopt prolonged austerity programmes that has led to the latest policy mess. When the EU ordered a severe dose of what might be called ‘internal devaluation for slow learners’ it apparently did not foresee that the outcomes of such a policy would include a ruinous deflation.
Having engineered a sort of permanent recession in much of Europe, the discredited EU elite is now proposing yet more socialisation of private sector risk and the pumping up of asset prices in a way that provides soft capital gains for private banks.
Adding to Draghi’s problems is the fact that the euro is far too strong for the comfort of EU exporters. The current euro-US dollar exchange rate of close to $1-40 compares to an entry rate of $1-17 and represents a rise of 6 per cent in the past year alone.
What would the old Irish pound be worth?
Ireland’s inflation rate briefly went negative in February before recovering to 0.2 per cent in March. Its problems are compounded by the fact that the euro is trading at about 83p Sterling. This is a rate which means (in mathematical terms) that if the old Irish pound were still with us today it would be worth more than £1.05 against Sterling.
The EU countries suffering from negative inflation are Spain, Sweden, Portugal, Slokavia, Croatia, Greece, Bulgaria and Cyprus. Italy is at just 0.3% and France at 0.7%. A year ago inflation in the EU was 1.7%.
The idea of charging banks for the privilege of holding their money on deposit is designed to force them – in theory – to put their money to work in the real economy instead. Not many believe this will happen. Instead there are fears that on the high street, European savers could get an even worse return on their deposits than they do at present.
There are also very odd suggestions that Draghi will provide even more emergency credits or LTROs to EU banks. These are three year loans supplied at near zero cost, of which he provided over €1 trillion shortly after he took office at the ECB.
Draghi has also given an open-ended commitment to do “whatever it takes” to pump up the market in government stocks – particuarly in the hugely indebted European periphery.
This pledge will have helped the Greeks – who defaulted on €100bn worth of their sovereign debt in an ECB funded ‘debt exchange’ two years ago-to recommence the sale of 5-year bonds last week.
Lemming-like investors rushed to purchase the Greek paper last week, and the offer was oversubscribed five times.
What is Draghi telling us?
Essentially the message coming from Draghi is that limitless sums of public money will be used to allow the European banking system to mimic the sort of performance one might normally expect from the holders of finance capital in a functioning capitalist economy.
Draghi is permitted to write his blank cheques by the EU’s political elite – Barrosso, Rehn and von Rompuy – because they are drive by as desire to protect the so-called European Project, at whatever cost it takes.
Last week there were even suggestions that EU banks be encouraged to begin the widespread securitisation of mortgages and other loans yet again. Debt securitisation is the process whereby a bank packages together good, bad and middling loans and sells them to a third party, in the process removing them from the bank’s balance sheet.
The sale of asset-backed securities (ABS), and the reinsurance of those loan packages by the likes of AIG, helped trigger the crash of 2007 and 2008. But it seems that global markets may be about to repeat the dose. This is because debt securitisation allows banks to write enormous amounts of business without having a matching capital base to support their lending.
In a time of enhanced regulation of banking this could be very important.
Markets have short memories
AIG, which reinsured much of the past wave of debt securitisation, was rescued by the US government at a cost of $180bn. But markets, as the Greeks discovered last week, have short memories.
If the Europeans do finally accept the principle of QE or Quantitative Easing, they will be latecomers at the ball. In the United States where the federal debt is close to a ruinous $17 trillion, QE has been scaled back from $85bn to $65bn a month. In the UK the level of QE is stuck at Stg£375bn with 95% of the money used – initially at least – to pump up the market in government debt.
Draghi has always insisted that the provision of emergency credits or LTROs to EU banks coupled with his pledge to pump up gilt markets does not constitute ‘monetary financing’ or ‘money printing’. It would be extraordinary if Angela Merkel and the Bundesbank permitted Europe to join the QE party two years late.
But with youth unemployment at over 50 per cent across large parts of Europe, inflation in negative territory and many banks and households in a form of lockdown the EU may allow itself to succumb to QE’s icy embrace.
The Germans are plodding ahead with their complex banking reforms which will essentially permit the ECB to usurp almost all the remaining functions of national central banks and to micro-manage the entire EU banking sector. The EU commission already micro-manages budget policy in numerous member states.
If we’re centralised, can we see the benefits please?
Intelligent finance ministers like our own Michael Noonan should be asking the EU’s top brass why, if we already have the equivalent of an EU finance ministry and centralised monetary control, we cannot have economic benefits of federalism. These would include provisions for common debt issuance which would lead to lower debt servicing costs at the EU periphery.
They would also include provisions for the transfer of resources from the wealthier parts of the federation to the less wealthy parts, as occurs in the US. The principle of intra-federation debt transfers is so embedded in the reunified Germany that workers are told of its precise cost in their monthly pay cheques.
Right now, Ireland and other errant/poorer EU members suffers from top down rule by unelected bureaucrats. If we are to have a de facto United States of Europe we should be asking for a lot more carrot and a little less stick.