Coronavirus: ECB stimulus corrects a blunder of its own making
Sky's Ian King explains what the European Central Bank is doing to help atone for a costly mistake its new president made.
Thursday 19 March 2020 18:05, UK
The European Central Bank's expansion in its asset purchases - Quantitative Easing in the jargon - to 鈧�750bn is big.
That is demonstrated when set in context against the €2.6trn worth of assets already accumulated by the ECB in this way during the last five years.
It is also, however, an attempt to make amends.
The ECB first announced on Thursday last week that it was expanding its existing asset purchases, of €20bn per month, by an additional €120bn by the end of the year.
The markets were underwhelmed by that and, worse still, were unimpressed by comments from Christine Lagarde, the new ECB president, at the news conference which accompanied the update.
Ms Lagarde spooked investors when she said: "We are not here to close spreads, this is not the function or the mission of the ECB."
That, in the jargon, was an insistence that it was not the ECB's role to bring down the difference between the Italian government's borrowing costs relative to those of the German government.
Her comments triggered a record sell-off in Italian government bonds and led her to be publicly criticised by Sergio Mattarella, Italy's president, who said Rome had expected more solidarity from the rest of the eurozone.
It was a blunder for which Ms Lagarde was later forced to apologise to the ECB's governing council.
So Thursday's huge expansion in QE is an attempt to make up for that mistake.
The amount being splashed by the ECB in its new Pandemic Emergency Purchase Programme (PEPP) also had to be big to bear comparison with the thumping $700bn expansion in asset purchases announced last Sunday evening by the US Federal Reserve.
It looks to have achieved that aim. The borrowing costs of eurozone countries - as implied by the yields on the bonds they issue - have fallen sharply on the news. They also stemmed the aggressive sell-off in European equities seen in recent weeks.
As Jacob Nell, economist at investment bank Morgan Stanley, put it: "This looks like the 'whatever it takes' move that markets have been hoping for.
"This new package signals in a much stronger way the commitment of the ECB to avoiding the risk of a significant depression or further financial fragmentation in the euro area."
Ralf Preusser, rates strategist at Bank of America Securities, added: "We believe this puts the ECB on the front foot after last week's miscommunication.
"However, this programme is no panacea and needs to be seen in the context of a very severe economic shock that cannot be overcome without a meaningful fiscal response."
This programme is however a powerful backstop that provides governments with space to do the large fiscal boosts required and insurance for the (uncertain) duration of the shock.
There are a number of eye-catching aspects to the initiative.
The first is that, for the first time since the ECB launched QE in March 2015, it will be buying Greek government bonds. That will be of great benefit to Athens.
The second is that the type of assets the ECB will be allowed to buy has been expanded to include non-financial commercial paper - the unsecured IOUs issued by companies to finance their short-term borrowing needs. That ought to help those companies in the eurozone whose cash-flow is under pressure and who might otherwise have had to lay off workers. It is a measure that both the Fed and the Bank of England have already adopted.
The third is that the ECB is keeping an open mind as to whether it does away with its self-imposed rules the govern its asset purchases. These oblige it to buy assets in proportion to the amount of capital that each euro area member has contributed to the ECB and prevent it from buying more than a third of the sovereign bonds issued by a particular eurozone government.
This last point is particularly significant because it would allow the ECB to target its asset purchases in areas where most strain is appearing, for example, letting it buy more Italian government bonds than it would previously have been allowed to.
While the ECB's action has been applauded in most quarters, some economists and market participants are not convinced, arguing it raises as many questions as answers.
Marchel Alexandrovich, European economist at the investment bank and brokerage Jefferies, said: "We think the ECB should be much more explicit in terms of how much it is actually buying in the markets. Last week for instance, the ECB only bought €1.6bn of sovereign bonds, this week the figure could easily be 10 to 15 times this amount.
"However, the markets won't know this until Monday; in terms of the country breakdown, the numbers won't be known until the end of the month.
"Publishing detailed figures on a timelier basis makes sense as a way for the ECB to demonstrate the full extent of its firepower and its flexibility."
And Simon French, economist at stockbroker Panmure Gordon, raised an eyebrow at the timing of the announcement - which came after an emergency conference call by members of the ECB's governing council on Wednesday evening.
He said: "The lack of synchronisation with fiscal policies and the late evening announcement has all the optics of the ECB being behind events."
In reality, it was probably as much as the ECB could do.
Interest rates in the eurozone already stand at a record low of -0.5% and the ECB is loathed by an increasing number of citizens in Germany.
But it does not get away from the fact that the eurozone is probably heading for a very deep recession.
It does not get over the fundamental problem with the eurozone - that it is a monetary union but not a political and fiscal union in which debt-sharing would be allowed.
And it does nothing to tackle another long-term problem that the eurozone has, most chiefly, the fact that some countries using the single currency, most notably Italy, have unsustainably high levels of debt.