Mario Draghi has been very clear about what would push him into the full-blown QE of buying government bonds. He faces some serious opposition from German monetary conservatives even to the less whizzy QE he’s unveiled so far, though — that of buying asset-backed securities.
Full-on QE faces legal difficulties from the ban on financing eurozone governments, as well as deep-seated opposition within Germany and major issues about which government bonds it should buy, and in what proportion. (Italy has the most in issue, so buy mostly Italian debt? Or buy in proportion to shares in the ECB? Or to economic size, meaning the biggest share would be German? Or in proportion to the size of the banking system?).
So it feels like time to explore some alternatives that have been, inexplicably in our view, ignored. Read more
From the opening to Mario Draghi’s speech at the Brookings Institution on Thursday:
As I was preparing these comments, I happened to re-read John Maynard Keynes’ open letter to President Franklin D. Roosevelt, published in the New York Times in December 1933. In it, Keynes tells President Roosevelt that the administration is engaged simultaneously in recovery and reform, and identifies a tension between the two. He worries especially about the risk that over-hasty reform impedes recovery. Read more
Peter Stella, former head of the Central Banking and Monetary and Foreign Exchange Operations Divisions at the International Monetary Fund, who now heads his own consulting company, is — as ever — on a mission to explain central bank actions for what they really are.
His latest focus area: the real story behind negative interest rates at the ECB.
Critical to understanding the purpose of these, he suggests, is the following chart:
George Saravelos at Deutsche Bank has looked at Eurozone inflation break-even rates and worries that the ECB may be losing control:
“Too Low To Resuscitate Optimism” indeed…
From BofAML on the definitely underwhelming, potentially stigmafied TLTRO pickup (our emphasis):
When gathering all the comments made by banks on their participation at today’s operation, we find that the major banks in Spain, Italy and Greece have requested a total of €40bn, i.e., 40% of their Sep+Dec available allowance (Exhibit 1, page 4). After extrapolating this to the whole banking system in each of the three countries and including estimates for Portugal and Ireland, we find that the periphery could have accounted for as much as €61bn, out of the €82.6bn borrowed yesterday.
This leaves an estimate of €21.7bn for the take-up by core banks, representing as little as 9% of their available allowance (Table 1). To derive a more precise estimate of the country breakdown, we have to wait for each national central bank to release the details of their end-of-Sep balance sheet. This should happen starting from early-October (with Italy, Finland and Belgium the first to report).
This is well below the €100bn-plus forecasts that were consensus…
There have been many failed attempts to unify the European continent by force.
More recently, politicians have tried to do it peacefully, with some limited success. The European Union has an elaborate bureaucracy and an elected parliament that together oversee everything from cheese names to foreign affairs. A majority of the EU shares a currency and monetary policy, as well as a common banking regulator.
But these supranational institutions are becoming increasingly unpopular among actual Europeans. Moreover, new research presented at the semiannual Brookings Papers on Economic Activity by Luigi Guiso, Paola Sapienza, and Luigi Zingales suggests the traditional strategy for promoting integration has reached a dead end. Instead of “more Europe”, the trend in the near future may be the revival of nationalism. Read more
Securitisation has gotten a bad rap thanks to its association with dodgy underwriting during the bubble. Yet bundling loans originated by banks and selling them to investors in the capital markets could be just what is needed to boost the flagging euro area economy.
This helps explains the European Central Bank’s recent announcement that it will be shopping for asset-backed securities (including mortgage bonds) and covered bonds starting in October. Read more
There’s an abundance of dollars in the Eurosystem with nowhere useful to go.
We think, as we argued earlier, this is down, at least in part, to the Fed busting apart the money-market arbitrage for non-FDIC insured foreign entities.
In any case, note the following chart (via the Bank of England) of the euro/dollar cross-currency swap, which shows how much cheaper dollars in Europe got since reverse repos kicked into action in September 2013 (the nearer zero the cheaper dollars are):
Whilst everyone was focused on the ECB on Thursday…
… the Fed pulled this little snippet out of its bag:
As part of the continuing program of operational testing of its policy tools, the Federal Reserve plans to conduct a series of eight consecutive seven-day term deposit operations through its Term Deposit Facility (TDF) beginning in October.
Okay, the Fed has tested term deposits before, so it’s not that mind blowing an announcement in and of itself. The significance, if any, is that it’s subtle confirmation that both reverse repos and TDs will be used in the Fed’s unwind process. The maximum award has also been increased to $20bn. Read more
Cross-posted from Lex Live — which is Lex’s new, free (you don’t even have to register) blog giving an insight on what Lex writers are reading and thinking…
Not that negative zone – Europe: Read more
Before we get into this it might be worth opening the transcript of Thursday’s ECB presser and Q&A with Mario Draghi and doing a “ctrl+f” for the phrase “structural reform”.
TL;DR: the answer is 19. (h/t to Aurelija Augulyte). There 15 mentions in August, and 5 in July.
But what’s a central banker to do? As Marc Ostwald at ADM Investor Services International says, “one cannot stress enough that believing that France and Italy will deliver meaningful (and indeed ‘growth friendly) reforms is an act of faith, for which there is little or no historical precedent.” Read more
Draghi: The Eurosystem will purchase a broad portfolio of simple and transparent asset-backed securities (ABSs)
— ECB (@ecb) September 4, 2014 Read more
From the ECB…
4 September 2014 – Monetary policy decisions At today’s meeting the Governing Council of the ECB took the following monetary policy decisions: Read more
Some pre-ECB musings from Lombard Street’s Dario Perkins (with our emphasis):
Market economists remain divided on the issue of whether the ECB will do QE, not because they disagree about whether it is needed – here there is near unanimity – but because they aren’t sure Mr Draghi can overcome philosophical and technical opposition from some of his colleagues…
Fortunately, those opposed to QE at the Bank seem to have softened their stance a little recently.
A week ago, Mario Draghi set euro policy-watchers all a-flutter, departing from his prepared remarks at Jackson Hole to issue a kind of blunt confession that he and his colleagues had run out of excuses for the ongoing depressed level of inflation across the eurozone, and that maybe some sort of reaction was required. Cue a quall of ECB QE speculation.
Then, on Wednesday this week, a story appeared on Reuters stating that, according to “ECB sources,” there was unlikely to be any new policy action from the ECB at its September meeting next week unless August inflation figures (published on Friday) showed the eurozone sinking significantly towards deflation.
The story remained exclusive to Reuters. But the message was clear: ECB officials are worried that market participants were reading too-much-too-soon into Draghi ad-libbing. Read more
Beat Siegenthaler, FX strategist at UBS, has been wondering about what the Swiss National Bank may do if the ECB’s measures to weaken the euro begin to test its 1.20 EURCHF floor.
He notes, for example, that there has already been a marked divergence between the EURCHF and the USDCHF:
Interest rates are very likely to remain unchanged at record lows and little is expected on the central bank’s plans to buy asset-backed securities or embark on full-scale quantitative easing.
The decision is out at 12.45pm UK time. Read more
A tale of missed opportunity. Denial. Oh, and possibly even certain death?
George Saravelos at Deutsche Bank looks at what are fast becoming intensifying euro outflows and wonders if it could amount to an important idiosyncratic driver for global markets. Yesterday, for example, the market witnessed a record euro liquidation day.
As Saravelos writes:
The drivers behind this are likely diverse – profit taking after an extended streak of inflows; geopolitical worries concentrated on Russia; contagion from broader risk-aversion. Cause notwithstanding, the concentrated nature of euro weakness and the breakdown in correlation with US yields strongly points to these “capital-flight” flows being an important idiosyncratic driver. The outflows have been larger than I would have expected, but until they stabilize, they will likely serve as an ongoing source of pressure on the euro and European currencies more broadly.
The deadline for European institutions to be compliant with the Single European Payment Area (SEPA) standard came and went on August 1.
In theory, that means anyone in Europe should from now on be able to make and receive payments across the union on an entirely frictionless basis. For the euro project it’s the realisation of one of the system’s key objectives.
As the ECB noted:
It allows businesses to grow and to broaden their reach within Europe, and reduces costs by providing a standardised framework for all their payments. Businesses can now use a single system and set of accounts for all their euro trade in Europe.
Some 231 pages of macroeconomic goodness has landed from the ECB. Click for the full July bulletin.
We turned straight to page 50, and the examination of predictions for economic recovery after recessions.
Gary Jenkins at LNG Capital brings us news on Wednesday that… yes, peripheral eurozone bond yields are or in some cases are just about to trade through US Treasuries.
But why should we be shocked about this?
Or as he puts it:
There has been a few headlines recently which suggested that we should be shocked that Spanish 10 year government bond yields now trade through treasuries and that the Italian equivalent is just a few basis points away. I think that these Eurozone countries should trade through treasuries. I think Portuguese bonds should do the same. Greece? Not so much… The fact is that since Mario Draghi started acting like a modern day central banker and the leading politicians looked into the abyss of what the default of a major European country like Spain might look like the yields on the so called ‘periphery’ European bonds have been converging with those of the core at a rapid rate.
Here’s the fixed-rate, four year, €400bn central-chunk of Draghi’s swarm attack that is the targeted LTRO, charted by Morgan Stanley’s Huw Van Steenis and team:
For all practical purposes we have reached the lower bound…
Are we finished? The answer is no… within our mandate, we’re not finished yet.
Both were statements by Mario Draghi on Thursday. It’s really the swarming effect of the policies the ECB announced on Thursday, after all, right? Not so much the Outright Monetary Transaction-style bravura, which (let’s not forget) the market also underestimated two years ago. Read more
Wait for those “details” on how the ECB will operate negative rates — plus “Further monetary policy measures to enhance the functioning of the monetary policy transmission mechanism”… (sounds like an LTRO to us)
But for now, note the red.
Here’s Nomura playing ECB ahead of Thursday’s meeting at which — in accordance with the FT and the “always listen especially carefully to Peter Praet” theory — there’s an increasing expectation that some sort of targeted LTRO is going to be announced alongside some rate cuts.
We got the trial ballon, after all, and everybody does so love an LTRO. Read more
A lot of people are puzzled over why US yields are falling when nothing has changed on the Fed communication side, and QE is supposed to be slowing.
Frances Coppola notes an even stranger phenomenon. When you look at the very big picture you realise that if there is a correlation between QE and rates, it’s actually a very counterintuitive one:
Every time QE is announced, yields rise: when it ends, they fall. And no, this doesn’t just affect the 10-year yield. The same basic shape can be observed on just about any maturity over 1 year (short-term rates are propped up by the positive IOER policy).
… and back on the “buy foreign bonds” option. Never mind the former might never happen, let alone happen when the ECB meets next week and does its best not to disappoint.
From Morgan Stanley’s FX team: Read more
There’s a good note from Goldman Sachs this week on the implications of negative rates at the ECB.
But given that many of the points echo much of the discussion already featured on FT Alphaville for years, we’ll cut straight to the interesting bits.
Goldman agree there isn’t anything conceptually special about negative rates because bond math works with negative numbers (as it’s focused on real returns). However, they add, there is a specific reason why negative rates might have qualitatively different macroeconomic implications, unless controls on cash were put in place with them: Read more
Some nice charts courtesy of Credit Suisse on Friday comparing European inflationary trends with those of Japan in the 1990s: