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Weidmann Citing QE Legitimacy Paves Way for ECB Consensus

Deutsche Bundesbank President Jens Weidmann
Jens Weidmann, president of the Deutsche Bundesbank. Photographer: Krisztian Bocsi/Bloomberg

Jens Weidmann has morphed from Dr. No into Mr. Maybe.

After building a reputation as a nay-sayer on the European Central Bank’s Governing Council, the Bundesbank president’s support for large-scale asset purchases marks a shift that helps the fight against deflationary threats. His tentative backing of quantitative easing will shore up its credibility as officials debate whether they need to implement it.

German officials at the ECB have throughout the euro-area debt crisis been among the fiercest opponents of government-bond buying. Asset-purchase plans triggered the resignation of two German central bankers and drew criticism from others, including Weidmann. That makes any change of stance significant should ECB President Mario Draghi push for QE as the best way to safeguard the recovery.

“Weidmann’s comments are very important and mark the first time in the euro’s history that the Bundesbank is clearly publicly on the side of QE,” said Julian Callow, founder of Catalyst Economics Ltd. in London. “A program isn’t a given but consensus is important. It gets you some of the way without having to do it.”

Weidmann last month said that QE isn’t “generally out of the question.” The remarks, published in an interview with Market News International on March 25, came six days before data showed euro-area inflation unexpectedly slowed to 0.5 percent, the lowest rate in more than four years. Subdued price pressures undermine economic growth and efforts to reduce government debt burdens.

‘Not Neglected’

Officials are unanimous in their agreement to use unconventional measures if needed to boost prices, Draghi said after the ECB’s monetary-policy meeting on April 3, in which a discussion of QE “was not neglected.”

“A decision by consensus or by unanimity is much more effective on the markets than one with a split majority,” Lorenzo Bini Smaghi, an ECB Executive Board member from 2005 to 2011, said in a Bloomberg Television interview on April 4. Bini Smaghi said in December 2011 the central bank should consider QE.

Weidmann’s support for QE isn’t boundless. While “we can go more unconventional,” the Governing Council still needs to discuss the form and legality of any asset purchases, he said on April 7, adding that his assessment of any future policies will be “consistent” with previous ones such as OMT.

‘Whatever it Takes’

OMT is the ECB’s promise of unlimited bond purchases that followed Draghi’s July 2012 pledge to do “whatever it takes” to save the euro. At the time, Weidmann insisted that his opposition to the program be made public upon its announcement. In a similar way, his predecessor, Axel Weber, carped at the Securities Markets Program hours after its inception in May 2010. Weber announced his resignation in February 2011, and Juergen Stark quit as ECB chief economist later that year.

Draghi’s plan is nevertheless widely credited for heralding the end of the debt crisis. Weidmann has acknowledged that it brought down yields on debt in stressed countries. Greece, which has seen net inflows of more than $100 million from U.S. exchange-traded funds this year, returned to the bond market yesterday with the sale of 3 billion euros ($4.2 billion) of 5-year notes that have a coupon of 4.75 percent.

Key Arguments

The key arguments by German officials have been that selective bond purchases are risky and may be illegal under European laws that prohibit central-bank financing of governments. The rules are similar to those that covered the Bundesbank before the creation of the ECB.

Yet the German central bank has used bond-purchase programs several times in its 57-year history. It spent 1.3 billion deutsche marks on sovereign bonds in 1967 and about 7.5 billion deutsche marks in 1975, when the economy struggled to grow after a global oil-price shock.

Concern over the legality of the purchases ended the 1975 program after only four months, according to Spiegel magazine’s Oct. 27 edition of that year. “We’re only allowed to engage in open-market policy to regulate the money market but not to finance the government’s budget,” then-Bundesbank Chief Economist Helmut Schlesinger was quoted as saying.

The discussions that Weidmann says the Governing Council will have on asset purchases will need to address the same issue. Officials will also have to deliberate on what assets to buy if a QE program is announced, and when they should do so.

Monthly Survey

While almost two-thirds of economists in the Bloomberg Monthly Survey predicted the ECB will ease policy by June, just 16 percent foresee buying securities, the same proportion as expect a cut in the benchmark interest rate. One in five forecast a suspension of liquidity-absorbing operations, and the same number see fresh long-term loans.

Draghi has signaled that any QE program will probably include both public and private debt. That would differ from traditional QE programs that focus on government securities. ECB Vice President Vitor Constancio reiterated the idea yesterday in Washington, where he is attending the International Monetary Fund’s Spring meetings.

“Private assets will be included in any decision that may be taken,” he said. “That would make a slight difference with other policies in other central banks.”

‘Big Difference’

One simulation the ECB has run assumes it would buy 80 billion euros a month over a year, or about 1 trillion euros in total. That’s equivalent to more than 10 percent of euro-area governments’ outstanding debt or economic output in the region, or more than 3 percent of total assets held by all banks in the bloc, according to calculations by Thorsten Polleit, chief economist at Degussa Goldhandel GmbH in Frankfurt.

“There is a big difference between what Draghi said and what the market heard,” said Richard Barwell, senior economist at Royal Bank of Scotland Group Plc in London. “The ECB has signaled that QE is possible, people appear to have concluded QE is nigh on inevitable. But there are some big questions left unanswered.”

Asset-backed securities have taken center stage in the discussion, even though the market is small. Issuance in the first half of 2013 was 83.5 billion euros in Europe, compared with the equivalent of 880 billion euros in the U.S., according to data compiled by the Association for Financial Markets in Europe.

Joint Paper

In a joint paper published today, the ECB and the Bank of England urged regulators to support and promote the ABS market and be mindful that rules to designed to safeguard financial markets don’t unduly impair the use of the securities.

Officials “responsible for the regulatory treatment can change incentives to participate in the ABS market,” the central banks said. “It would be important that the authorities seek to ensure that new regulations at global and EU levels do not act to the detriment of the securitization market.”

Mixing assets in any potential ECB program may make any plan more digestible for Weidmann and would acknowledge that European companies primarily obtain funding via bank loans. Buying from non-banks such as insurance firms or hedge funds would boost monetary aggregates, increasing the chances that the stimulus reaches the real economy.

“Weidmann is still not a QE enthusiast but he’s a bit more open-minded to discussing quantitative easing,” said Nick Kounis, head of macro research at ABN Amro Bank NV in Amsterdam. “He seems open to private-sector purchases, he may still be a bit wary of government bonds, but here’s the guy who opposed the OMT at the height of the sovereign debt crisis. Clearly he’s changed.”

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