22 Jan 2015

Eurozone QE: 20 things you need to know

The European Central Bank (ECB) will pump over one trillion euros into financial markets in a last-ditch attempt to prevent the fragile eurozone economy from grinding to a halt. Here are 20 things you need to know about how – and why:

1. The European Central Bank has unleashed 1.1 trillion euros of quantitative easing (QE), signalling its intent to buy 60bn euros worth of Eurozone government debt per month until September 2016.

2. The ECB has fudged the question of “risk sharing”: Eurozone countries will carry only 20 per cent of the risk of losing money linked to the debts the QE will hoover up.¬†The rest will have to be backed by national central banks.

3. Greece and Cyprus are excluded because their debts are not “investment grade” – meaning the two most busted economies in the Eurozone are not helped directly by the measure.

4. Here’s the background: after the 2008 crisis, growth was suppressed throughout the world. Not just by a massive debt overhang, but by the knowledge that two key features of neo-liberalism, when it was successful, could not be revived:
a. The global imbalances, whereby China, Japan, the oil countries and Germany produced stuff, suppressed consumption and funded the borrowing of the rich countries; and
b. The financialised lifestyle of the West, where consumption continued to grow, despite low or zero wage growth, because of increased access to credit.

5. So growth is scarce. Meanwhile there is an abundance of three things: labour, capital and oil.

6. Once the immediate crisis was over, three major market economies used QE as a long-term survival strategy: the US, Britain and Japan from 2012. Of these, the US and Japan also used loose fiscal policy – so they ran up debt and spent the money on reviving growth. Only the UK departed from this, with the coalition government in 2010. China adopted QE through the backdoor – via soft state loans to the banking sector – and is permanently expansionary. Nevertheless, its growth has halved since 2007.

7. Meanwhile Europe stagnated. It refused to do QE. Its solvent countries, most notably Germany, refused to rebalance their economies to soak up more consumer spending and generate growth via running a budget deficit. Germany’s policy of “schwarze null”, or black zero, ensures that it will not use Keynesian fiscal policy to promote extra growth. Meanwhile the periphery – Portugal, Ireland, Italy, Greece and Spain – were forced into severe austerity.

8. Therefore only monetary expansion can revive the Eurozone. ECB boss Mario Draghi recognised this last year when he called for QE to the tune of at least one trillion euros, and for a relaxation of fiscal austerity – and even for more unconventional measures, like the ECB buying the bonds of Eurozone states direct, not on the secondary market.

9. But Germany and its allies – Finland and the Netherlands – have fought a rearguard action against QE, and are steadfast in refusing fiscal expansion.

10. So today’s measure was always going to be a compromise. But it is massive, and it is going to be done quickly.

11. The ECB risks two things by failing to do a full QE programme (via which states pool risk and accept cross-border fiscal solidarity):
a. Failing to adequately stimulate the Eurozone economy. Mr Draghi says the QE should not be weakened by forcing countries to backstop most of the debt bought up; and
b. Designing the Eurozone’s break-up by default. We are waiting to see how Athens and the Cyprus capital Nicosia react to the prospect they won’t be allowed in.

12. The danger was that by compromising on “risk sharing” Mr Draghi would look irresolute. As some put it, it would look like a contingency plan for letting Greece out of the euro.

13. The de facto exclusion of Greece signals to the Greek political elite that it has not done enough to cement Greece into the Eurozone, and that should an incoming leftist government negotiate a further debt write-off, or see bank defaults force it out of the Eurozone, Greece will be cast adrift.

14. Although the right is blaming the left in Greece for creating uncertainty, the fact is that Greek debt is unpayable. The International Monetary Fund’s design of the “Troika project” was totally unrealistic, its growth projections were out by a “mere” 25 per cent and the blame for Greece’s predicament lies squarely with the Troika and the Greek ND/Pasok coalition. An incoming Syriza government can make this worse, but it is not primarily responsible for the semi-detached status of Greece in Eurozone QE.

15. The stakes are massive. In Greece the polls are hardening towards a Syriza victory, most probably in government with the centrist Potami party. In Spain, the left-horizontalist movement Podemos is leading the polls and could easily become the lead partner in a left coalition government there in November or December 2015. Meanwhile the French Front National party and Geert Wilders’ Freedom Party in the Netherlands both stand poised to win polls in their countries.

16. If Eurzone QE fails, political radicalisation will strengthen in Europe. But it is also important how the ECB and European Commission treat Greece and other peripheral countries during the detailed negotiations over QE.

17. QE always creates a backwash of effects outside the zone it is applied to. In Europe, the countries that are part of the exchange rate mechanism II will see their currencies rise in value, as Switzerland’s has done. A second interaction involves trade and inflation: QE will cause a de facto hike in the value of Sterling unless the Bank of England does more QE itself. This will depress Britain’s export performance.


18. The entire continent — and the world — is stalked by deflation. Mr Draghi, having denied the risk of Eurozone inflation, admitted this today, by saying deflation affecting prices was feeding through to wage deflation. That’s why the move is so big and immediate.

19. Once the Eurozone is doing QE, then all the major economies are on long-term life-support from printed money. Apart from the US nobody has outlined an exit strategy. The market in government debt is, for now, effectively nationalised. It does not reflect market forces but states creating artificial demand for their own debt. The next phase, if each QE cancels the others out, would be overt currency manipulation and trade war.

20. Mr Draghi said, in a coded message, that the Germans need to loosen fiscal policy to promote growth and that the French and the economies of the periphery need to free up their labour and product markets.

So the Eurozone centrist dream remains as stated: revive the continent through monetary policy, and Germany taking up the strain by boosting growth while and Italy and others attack trade union and employment rights. Of these three things, only one is not subject to national democratic pressures, and that’s monetary policy – and that’s why it has to be so big.

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