Mario Dragh
Mario Draghi’s bid to reactivate bond purchases in a final salvo of stimulus is being threatened by the biggest pushback on policy ever seen during his eight-year reign as European Central Bank president.
Bank of France Governor Francois Villeroy de Galhau’s skepticism over the need for an immediate resumption of quantitative easing follows outright opposition from the ECB’s German and Dutch policy makers and a hawkish tone from Austria. It means any push to restart QE to fight the euro zone’s slowdown faces resistance from countries that form the heart of mainland Europe’s economy and half the bloc’s population.
Now, as the Governing Council starts its weeklong quiet period before the Sept. 12 meeting, the ECB chief faces a choice on what may be his last chance to deliver more QE. He can push ahead without support from such core countries, potentially raising questions on legitimacy and credibility, or he can hold back.
Draghi will be aware of doubts among newer euro-zone members as well, with Estonia’s governor saying on Tuesday that he doesn’t think there’s a strong case for reactivating QE now. Slovakia’s central-bank chief said last week that the ECB will need "broad unity” in any stimulus decision for the sake of its credibility.
Draghi’s challenge, with just two policy meetings left before he hands over to Christine Lagarde, is how to respond to a deepening slowdown with a depleted toolkit. He has already cut the key interest rate to an unprecedented minus 0.4% and hoovered up more than 2.6 trillion euros ($2.9 trillion) of bonds.
The options are clear: a rate cut, measures to soften the impact of that on banks, strengthened guidance on loose policy, long-term loans to banks, and more QE. The question is how far they can be stretched before they start to backfire by weakening banks, fueling asset bubbles and impinging on rules aimed at keeping monetary and fiscal policy separate, as required by European Union law.
"They’re running out of firepower, basically,” said Panicos Demetriades, a former ECB Governing Council member who is a professor at the University of Leicester. "Doing whatever it takes -- even if you want to -- is becoming harder.”
Villeroy’s comments suggest that a coalition could be forming against an immediate QE reactivation unlike any Draghi has seen before. While German, Dutch, Austrian and Estonian officials also opposed QE when it was launched in 2015, Villeroy’s predecessor at the Bank of France, Christian Noyer, was supportive.
Policy makers participate in ECB decisions in a personal capacity, but their provenance still carries weight. Germany, France and the Netherlands account for about half of the region by both gross domestic product and population. That heft is also reflected in their shareholdings in the ECB itself.
Draghi first raised the prospect of reactivating bond purchases less than three months ago. At the latest ECB decision on July 25, policy makers instructed officials to prepare options for an easing package. Since then, the data have shown a worsening picture, particularly in Germany, the region’s biggest economy.
Finnish Governor Olli Rehn initially raised expectations for action by calling for an "impactful and significant” stimulus package, before hawkish policy makers countered that view. Bank of Spain Governor Pablo Hernandez De Cos fought back last week, saying all options should be on the table.
Morgan Stanley said in a note on Thursday that it’s scaling back its predictions for QE. It now expects monthly purchases of 30 billion euros for 9-12 months, down from an earlier estimate of 45 billion euros, and says there’s a risk the announcement could be delayed. Banks including Goldman Sachs and ABN Amro have forecast QE will be restarted.
What Bloomberg’s Economists Say
"Bloomberg Economics expects the ECB to purchase 45 billion euros a month in bonds for one year. That should be accompanied by a 10 basis point reduction in the deposit rate and the introduction of a tiering system”-- David Powell and Maeva Cousin. See their ECB insight
The ECB’s chief economist, Philip Lane, who writes the policy proposals for the Governing Council and presents the economic case behind them, didn’t mention QE when he gave an academic lecture on Wednesday.
Lagarde, who won’t be involved in next week’s decision, said at a European parliament hearing that the ECB must be agile and keep policy highly accommodative while being aware of the negative side effects of unconventional tools.
Draghi isn’t used to being thwarted. He kept Weidmann largely isolated in previous arguments on stimulus and crisis-fighting measures on the 25-member council. Conceivably, though improbably, he could push QE through if it goes to a vote as Villeroy would be excluded under a monthly rotating system that streamlines decision-making.
Voting is exceedingly rare though as the ECB strives for unanimity or at least a broad consensus. An inability to achieve that this time would fail Kazimir’s credibility test.
Draghi does have options which might sway the doubters. One would be to restart QE but at a low level -- say 15-20 billion euros a month -- so he doesn’t have to change the limits on holdings. Another might be to set a finite target for purchases rather than keep them open-ended as they have been previously.
He could include QE as a contingency rather than a full part of a stimulus package, deferring the decision on whether to start buying until the outlook more compellingly demands it.
That would also leave the question of activating the program to Lagarde, who starts on Nov. 1. That’s coincidentally also the first day a key risk facing the euro zone could materialize -- the U.K. leaving the EU in a disorderly Brexit.
