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26 October 2017
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Germany European Central Bank (The Total Investment & Insurance
Solutions)
The European Central Bank will ease the pace of its bond-buying stimulus
program — carefully dialing back a measure that has helped the eurozone recover
from a debt crisis that threatened to break up the currency union.
The ECB said Thursday it would reduce its
bond purchases to 30 billion euros ($35 billion) per month starting in January,
from 60 billion euros currently. The purchases would continue at least until
September 2018.
The bank kept some flexibility in its
statement, saying that it could increase the purchases if the 19-country
eurozone endures a new economic shock.
Increasingly strong economic growth has
enabled the ECB to look toward phasing out extraordinary stimulus measures, in
hopes that higher wages will eventually push inflation up from 1.5 percent to
its goal of just under 2 percent.
The withdrawal of the stimulus will have
wide-ranging consequences on investors, companies and governments — one reason
the ECB is moving slowly. Eventually, governments may pay more for borrowing
and have less to spend, while companies that would not be profitable under
normal interest rates may go out of business. But the ECB's slow pace in
removing the stimulus and raising interest rates means the impact will be slow.
So savers with money in conservative holdings such as bank deposits will endure
another several years of paltry or nonexistent returns. The Total Investment & Insurance Solutions
Stimulus is believed to have pushed up prices
of a broad range of assets, from stocks to real estate. It's not clear what
will happen to their prices when the stimulus is withdrawn. The Total Investment & Insurance
Solutions
The watchword at Draghi's news conference was
caution. He said Thursday's decision meant the central bank was confident in
the economy but "reflects that we are not there yet" and that the
upswing "still relies very much on our monetary support." The Total Investment & Insurance
Solutions
He declined to call the reduction a taper,
the term used to describe the month-by-month reduction of purchases by which
the U.S. Federal Reserve exited its own bond-buying stimulus. Instead, he
called it a "recalibration," which underlines that the remaining
stimulus has no definite end date.
The bond purchases were started in March 2015
amid fears that low or negative inflation would become chronic, a trap known as
deflation that can hurt the economy and be difficult to escape. Inflation has responded
only slowly. The ECB must think about ending the program in part because it
could run out of eligible government and corporate bonds to purchase. The
program has also been opposed by a minority of stimulus skeptics on the
governing council.
The bank says it has room to end the stimulus
as the economy continues to grow faster than expected. The 19 countries that
share the euro currency saw their combined economy grow 2.3 percent in the
second quarter compared with the same quarter the year before. The crisis over
high debt in countries like Italy, Greece, Spain, Portugal, Ireland and Cyprus
has eased, though levels remain high in Italy and Greece still faces painful
unemployment rates and a shrunken economy — despite getting three rounds of
bailout loans.
Under its stimulus program, the ECB buys
bonds from banks, adding newly created money to the reserve accounts the banks
are required to have at the ECB. That is the pipeline the ECB uses to push that
new money into the hands of banks. Ultimately, the effect should be to increase
the availability of credit, drive down longer term interest rates, and increase
inflation.
The bond purchases have driven down bond
market borrowing rates, with the result that the German 10-year bond yields
0.47 percent. By comparison, the equivalent U.S. Treasurys yield around 2.4
percent. But inflation has been slower to respond. The ECB foresees only 1.5
percent for 2019, still short of its goal.
That is one reason the ECB has made clear it
intends to move slowly in withdrawing its stimulus. In particular, it says it
will keep its short-term interest rate benchmark at zero until "well
after" the bond purchases end. If the purchases end in the second half of
2018, that means it would likely be 2019 before the ECB would start raising
interest rates. It has also said it intends to keep reinvesting the proceeds of
maturing bonds, meaning it will keep existing stimulus in the financial system
even though no more new money is being pumped in.
The ECB also wants to avoid sending the euro
higher, which could hurt eurozone exports. Less stimulus and higher interest
can strengthen a currency's exchange rate. The Total Investment & Insurance Solutions
Carsten Brzeski, chief economist at ING
Germany, said the pace of stimulus reduction "illustrates that the ECB
wants to start the exit as cautiously as possible, ideally without seeing the
euro appreciate or bond yields increase." The market seemed to agree, with
the euro trading 0.9 percent lower on the day at $1.1709 at 1351 GMT.
All that puts the ECB well behind the U.S.
Fed. It has ended bond purchases, started raising interest rates and this month
is beginning the gradual process of letting its $4.5 trillion pile of bonds run
down as the bonds mature. That is because the U.S. recovery bounced back faster
from the global financial crisis and the Great Recession. The Total Investment & Insurance
Solutions
The ECB is not alone in its inflation
struggle. Inflation has been slow in recovering in the U.S. and global
economies as well; economists are not sure of all the reasons, but
globalization, Internet commerce and fears of a new global crisis have all been
put forward as reasons.The Total
Investment & Insurance Solutions
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