The stage is set this week for the European Central Bank to unleash its biggest weapon yet in the battle against deflation in the eurozone, analysts said.
Financial markets and ECB watchers are betting that central bank chief Mario Draghi will unveil a program of sovereign bond purchases known as quantitative easing (QE) at the first policy meeting of this year on Thursday (Jan 22), Channel NewsAsia reported.
With area-wide inflation turning negative in December – consumer prices fell by 0.2 percent across the single currency region – the alarm bells have been ringing, and Draghi and other top ECB officials have been busy priming the markets for action. Draghi said the bank had few other options at its disposal to counter the risk of deflation, a dangerous downward spiral of falling prices.
And ECB executive board member Benoit Coeure said in multiple interviews that the central bank’s governing council would debate the size of such a program this week.
“The ECB will no doubt make good its promises and announce broad-based government bond purchases,” said Commerzbank economist Michael Schubert.
IHS Global Insight analyst Howard Archer agreed. The inflation numbers “sustain the massive pressure on the ECB to pull the QE trigger” on Jan 22, he said, even if it was “not 100-percent certain” that it would do so just yet.
Biggest Weapon Yet
QE is the biggest gun yet in the ECB’s anti-deflation arsenal. The central bank has already cut its interest rates to new all-time lows, made unprecedented amounts of cheap loans available to banks via its LTRO and TLTRO programs, and embarked on asset purchase programs (ABSs and covered bonds) to pump liquidity into the financial system.
But QE – a policy used by other central banks to stimulate their sluggish economies – has many critics in Europe, not least the German central bank, or Bundesbank. Bundesbank chief Jens Weidmann believes such a program takes the ECB outside its remit and is effectively a license to print money to get governments out of debt.
Nevertheless, such objections received a setback last week when the top lawyer of the European Court of Justice said that the ECB’s previous bond-buying program, Outright Monetary Transactions or OMTs, was in line with European treaties. For many, that was effectively a green light for a program of QE as well.
No Cure-All
Nevertheless, the eurozone was a more bank-based economy than the United States, and QE does not actually boost bank lending much, the analyst warned. “That, as well as distrust of the tool in core Europe, could cut the effectiveness of asset purchases in the eurozone relative to the US and UK,” he said.
The real risk was not that QE failed to work, “but rather that the ECB does not do enough of it in deference to the hawks,” Wood said. However, many observers, including Draghi himself, insist that QE is not the be-all and end-all. “On its own, it (QE) can help correct only a near-term lack of demand,” Wood said.
Euro Slides
The euro fell against the dollar on growing expectation that the ECB will launch stimulus next week to jump-start the ailing Eurozone economy.
The euro fell below $1.15 for the first time since November 2003, before recovering to trade at $1.1566. Late Thursday the shared European currency traded at $1.1623.
Eurostat confirmed prior data showing that Eurozone inflation fell into negative territory in December, with consumer prices down 0.2 percent. On a year-over-year basis, inflation was the weakest since September 2009, at 0.8 percent well below the ECB’s target of close to 2.0 percent.
