There was little doubt that the European Central Bank (ECB) would act at its June meeting – market consensus had expected some move on interest rates. The ECB duly delivered on rates but also unveiled a raft of additional measures.
For its part, the ECB had already indicated that it was concerned by the anaemic rate of economic growth in the eurozone, something not helped by a strong euro hampering exports and a low rate of inflation raising deflationary fears.
What we got was a credible package of measures that should nudge growth in the eurozone up a gear. The cut in the refinancing (repo) rate by 10 basis points to 0.15% is likely to have negligible effect, the cut to a negative deposit rate of -0.10% however is more convincing as it should encourage banks to lend more.
More interesting is the Targeted Longer-Term Refinancing Operation (TLTRO), which is being targeted at the real economy, i.e. businesses rather than housing or governments. Liquidity will also be boosted by the cancellation of the weekly securities market programme drain, which should inject approximately €165 billion into the system. Other measures include an extension of the fixed rate full allotment regime and progress towards buying asset backed securities.
This was an enterprise-friendly set of measures. However, the cut in rates may not go down too well with German households, which tend to hold a lot of money on deposit and will shortly be getting next to nothing in terms of interest. The sop to Germany is that a lower euro – which has fallen recently in expectation of the ECB announcements – should support Germany’s exporters. Germans will also take some comfort from Draghi stressing the need for structural reforms to continue given that progress has been uneven and is far from complete. Monetary policy alone cannot do all the heavy lifting in growing the economy.
The real risk, in my view, is that growth will remain low due to demographics and general caution. This will lead to tax receipts recovering but not enough to start repaying significant amounts of loans outstanding. However, the cost of financing that debt is now considerably lower in all countries and the cut in rates should help anchor bond yields and financing costs at low levels.
The measures taken by the ECB are helpful but as the saying goes: “you can lead a horse to water, but you can’t make it drink.” It remains to be seen whether this carrot and stick approach by the ECB can encourage lending and lift the pace of recovery within the eurozone. What is clear is that the president of the ECB, Mario Draghi, is more than willing to engage in further action if necessary, stating that they “are not finished here” if the eurozone economy fails to respond to this latest package.
By Tim Stevenson, manager of the Henderson Horizon Pan European Fund