Saturday, January 24, 2015

24/1/2015: ECB v Fed: Why Frankfurt's QE is a Damp Squib

A neat chart from Pictet showing balancesheet comparatives for ECB and the Fed.

Setting timing issues aside (which are non-trivial), the quantum of ECB balancesheet expansion planned is still too weak and it is too weak relative to previous peak. The Fed balancesheet expansion followed three stages:

  • Stage 1 in 2008-2009 was sharp and more significant than for ECB.
  • Stage 2 covered Q1 2009-Q2 2011
  • Stage 3 covered Q1 2013 through Q3 2014.
  • There were no major policy reversals, only moderation, over the entire QE period.
In contrast, ECB balancesheet expansions were weaker throughout the period, and were subject to a major reversal in Q1 2013 - Q3 2014 period.

In effect, even with this week's boisterous announcement, the ECB remains a major laggard in therms of monetary policy activism, compared to all other major Central Banks that faced comparable risks.

Now, to timing. ECB is a de facto your family doctor who routinely forgets to apply medicine in time and under-medicates the patient after the fact. Frankfurt slept through the Q1 2009-H1 2011 and went into a delirious denial stage in Q1 2013-H1 2014. The inaction during two key periods meant that nascent recovery of 2010 was killed off and 2013-2014 can be written off as lost years. The lags in policy reaction by the ECB are monumental: as the Fed ramped up monetary expansion in Q4 2012, the ECB will be presiding over a de facto monetary (balancesheet) stagnation, if not contraction, until March 2015. Which means that during the critical years of deleveraging - of banks and the real economy - debt reductions in the European economy were neither supported by the institutions (bankruptcy and insolvency resolution regimes), nor facilitated by the monetary policy. Instead, monetary policy simple delayed deleveraging by lowering the interest rates, without providing funding necessary for the writedowns. This is diametrically different to the US, where deleveraging was supported by both monetary policy and institutional set ups.

Meanwhile, Germans are now at loggerheads with the rest of Europe, whinging about the 'abandoned prudence' of the ECB. Best summary of why they are dead wrong is here:

The circus of the euro area pretence at economic (and other) policymaking rolls on. Next stop, as always, Greece...
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