What a damp squib.
In June, European Central Bank (ECB) boss Mario Draghi outlined plans to boost the European economy. Apart from some small interest rate cuts, the centrepiece was yet another acronym – TLTROs – which stands for ‘targeted longer-term refinancing operations’, and basically means lending money to banks for long periods of time at low interest rates.
The hope is that banks will use the money to fund businesses and consumers, boosting demand and therefore economic growth.
Analysts were sceptical. Before this week’s loans went up for grabs, they reckoned that less than half of the €400bn on offer would be scooped up. Reality was even worse. Banks took up less than a quarter (€82.6bn) of the money on offer.
In short, it’ll take a lot more than TLTRO to sort this mess out – and that may be good news for investors.
The great big central banking flop
There are two reasons why the TLTROs have flopped. The first is that Europe’s banks are in no position to lend money. Many still haven’t dealt with the bad loans already on their books. As a result, they are scrambling to repair their balance sheets, not stretch them further.
The other problem is that even if the banks were in a position to lend more, it’s hard to see where they could deploy the extra money. While there are a few bright spots, such as Ireland, other core countries are close to recession.
Even Germany is struggling. GDP looks as though it may have fallen in the second quarter of this year. And more recent data suggests this trend will continue. Business confidence has been falling for five straight months. Even worse, German consumers are cutting back too. This dashes (already forlorn) hopes that Germany could pull the rest of the region out of recession by becoming a bit more Italian and starting to buy more foreign goods.
In short, the eurozone isn’t doing well. Even although the region is growing as a whole, it’s not doing so strongly enough to make a serious dent in regional unemployment or to generate enough revenue to help debt-ridden governments get their deficits under control.
The ECB has few options left
So what other choices does the ECB have? Draghi has talked of buying asset-backed securities (ABS). These are market-traded bundles of loans and mortgages. Create a ready market for those, and you might see banks write more loans. The trouble is, unlike America, the European market for ABS remains relatively small – banks prefer to make the loans directly. This limits the impact of any programme.
Similarly, lowering interest rates even further seems unlikely to work. The decision to charge banks for holding reserves at the ECB hasn’t stopped them from doing so.
Others are calling on governments to spend more. The deputy governor of the Bank of England, Minouche Shafik, has called for eurozone government to pursue more “growth-friendly” fiscal policies, alongside further economic reforms.
Even Draghi has dropped hints in recent speeches that he would like to see deficit targets relaxed. The European Commission has also outlined a plan for €300bn of investment.
But while there may be changes on the margins, it will be hard for Brussels to do a complete U-turn on its ‘austerity’ strategy after several years of insisting on budget cuts. And Berlin would oppose any significant relaxation, which might undermine the deficit-cutting efforts. German politicians are eager to be seen by voters as not being too ‘soft’ on the periphery.
Buy dollars, sell euros – or buy cheap eurozone stocks
In short, it’s hard to see how Draghi can resist doing full-blown quantitative easing (QE) for much longer. And already, one big winner from this prospect has been the US dollar.
Having got its QE in first, the US is now on course to be the first country to start raising rates. Officially, Fed boss Janet Yellen is committed to keeping rates low “for a considerable time”. However, she’s been adopting a more aggressive tone lately, suggesting that this could end much sooner than people think if the economic data continues to be good.
You could bet on the US dollar against the euro via a spreadbet. Or if that’s too risky (and it is very risky indeed if you’re not careful) then you could try an exchange-traded currency – the ETFS Short EUR Long USD (LSE: SERO).
That said, the dollar has already come quite a way. There’s no reason that can’t continue, but taking punts on the short-term direction of currencies really is high-risk, and sudden reversals are perfectly possible regardless of the underlying fundamentals.
So if you just want to focus on the effects of QE, you might want to turn to one of the peripheral stock markets. While other economies have been struggling, surveys suggest that the situation in Greece is improving (in relative terms, at least). As a result, the Lyxor ETF FTSE Athex 20 (PARIS: GRE) – which gives you exposure to the Greek market – still looks great value. (I own this ETF myself).
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