Draghi reloads the bazooka
When Mario Draghi announced the European Central Bank’s landmark €1.1tn asset purchase plan in January, it was intended to counter the eurozone’s internal weaknesses and design flaws in the wake of a debt crisis which nearly tore the region apart.
Now the ECB president is hinting at yet more stimulus, the threats facing the region are of a different nature to those witnessed nearly a year ago.
“We are ready to act if needed . . . and we are open to the full menu of monetary policy,” Mr Draghi said in Malta last week.
“The governing council has tasked the relevant committee to examine the pros and cons of various measures . . . The attitude is not wait and see but work and assess.”
Draghi is an enthusiastic proponent of “forward guidance”, the strategy of sending strong verbal policy signals in order to shift financial markets – in this case, driving down the euro.
His dramatic pledge in the summer of 2012 – in the middle of the Greek debt crisis – that the ECB would do “whatever it takes” to save the single currency helped to reassure panic- stricken investors.
The ECB's move to boost its monetary stimulus, which drives down eurozone bond rates and puts downward pressure on the euro, comes as US Federal Reserve board members appear deeply divided on whether to proceed with plans to raise US interest rates this year.
While the Fed dithers, the market has already ruled out an interest rate cut this year, which has pushed lower both US bond yields and the greenback.
But as it grapples with feeble economic activity and inflation falling into negative territory, the last thing the ECB wants is to see the euro strengthening against the US dollar. A stronger euro will act as a drag on eurozone growth, because it will make the region's exports more expensive in global markets. And the ECB cannot stand by idly and watch as the slight progress it has made in terms of boosting economic activity is destroyed by a strong currency.
As a result, Draghi has little choice but to fire up the printing presses even more by signalling that the central bank's € 1.1 trillion bondbuying program could be "reexamined" in December, and by refusing to rule out further interest rate cuts.
Speaking after the ECB’s latest policy meeting in Malta, Draghi revealed that some members of the governing council had favoured taking more action to stimulate the economy immediately.
He blamed the slowdown in emerging markets, including China, for renewed weakness in the eurozone.
“While euro area domestic demand remains resilient, concerns over growth prospects in emerging markets and possible repercussions for the economy from developments in financial and commodity markets continue to signal downside risks to the outlook for growth and inflation,” he said in his opening statement.
Draghi said the ECB could also step up the scale of QE. A decision is likely to be made at the December meeting of its governing council, when its latest economic forecasts will be available. As Draghi spoke, the euro dropped by 1.5 cents against the dollar, to $1.117.
Not surprisingly, the euro sank against the US dollar on Draghi's comments and bond yields, which move inversely to prices, dropped sharply. Benchmark 10-year Italian and Spanish bond yields fell to their lowest level since April, while the yield on twoyear German bonds hit a record low of 0.32 per cent.
“The governing council is willing and able to act by using all the instruments available within its mandate, if warranted, in order to maintain an appropriate degree of monetary accommodation,” Draghi said.
“The ECB will almost certainly be delivering an early Christmas present this year,” said Nick Kounis, the head of markets and macro research at investment bank ABN Amro.