Well the day has finally arrived that after two years of promises, jawboning and hope – the European Central Bank finally announced they will take the plunge into the Quantitative Easing (QE) pool.
“Today, the ECB announced that they will engage in a “QE” type program buying €60 Billion (Euros, not Dollars) a month of investment grade sovereign bonds.
While the markets may welcome another source of liquidity to replace the vacancy left by the Federal Reserve, the are several problems that the ECB will still have to hurdle. The first, and arguably the most important, was identified byAxel Merk in his recent newsletter:
“It should be clear, though, that the negative deposit rate at the ECB makes comparing today’s balance sheet to that of 2012 akin to comparing apples to oranges.Â
Let’s keep in mind that anyone selling bonds to the ECB must do something with the cash. QE programs in other countries allowed banks to earn some interest on their excess cash. At the ECB, sellers will have to pay the ECB to in order to hold excess cash. As a result, sellers will think twice before selling.Having said that, at the right price, there will be sellers. However, we are now moving from apples and oranges to bananas – pardon the pun: any amount of buying by the ECB will be more potent with negative interest rates on cash deposits at the ECB, casting serious doubts over whether it is appropriate to state that the 2012 size of the balance sheet is the appropriate size.”
This is crucially important. With the ECB leaving interest rates unchanged, the negative interest rate carry makes this QE program much less attractive to sellers.
Secondly, given the fact that “QE” programs have failed to spark “inflation”anywhere else on the planet, the question really becomes “what is the point?” The deflationary pressures in Europe are Draghi’s real concern, and since QE suppresses interest rates and inflation, the whole process seems to contradict the stated goals.”
