Goldman Sachs Sees Governments Coming to ECB Rescue on Stimulus

  • Loosening of fiscal shackles supportive of euro-area growth
  • Goldman's Garzarelli sees QE likely extended past March 2017

Mario Draghi may soon find that when it comes to supporting the euro area, the European Central Bank is no longer acting alone.

As the ECB president goes all-in on monetary easing to nurture growth and inflation in the 19-nation currency bloc, governments are now heeding his call for more stimulative fiscal policies, according to Goldman Sachs Group Inc. Francesco Garzarelli, London-based co-head of fixed-income strategy at the bank, predicts the measures will boost gross domestic product by 0.4 percentage point this year.

“There is some relaxation of the fiscal stance -- nothing to the extent that would warrant problems, nothing to the extent that would crowd out the private sector,” Garzarelli said in an interview in Madrid on Tuesday. “It’s accompanied by structural reforms. You loosen the belt, but you’re also engaging in a lifestyle change.”

A shift toward more government spending and recovery-supportive strategies would mark a change from the austerity preached by European institutions at the height of the region’s debt crisis. While the justifications for looser policy differ, including spending on migrants in Germany and tighter security in France after terror attacks, the expenditures add stimulus on top of the ECB’s record-low interest rates and 1.5 trillion-euro ($1.6 trillion) quantitative-easing program.

‘Fiscal Space’

Draghi has called on governments to use “fiscal space” to support monetary policy in stabilizing the economy, alongside structural reforms that focus on reducing the debt overhang. That doesn’t mean the central bank won’t act again, Garzarelli said.

“The ECB is probably in the direction of more QE rather than more negative rates,” he said. “The deposit rate gets you a weaker euro and a boost to inflation quicker, but it has a political cost domestically and internationally.”

On the other hand, asset purchases address the “bigger problem of Europe” by freeing governments to follow through with structural reforms, Garzarelli said.

“The more of that debt gets onto the central-bank balance sheet, the more of it becomes sustainable,” he said. “That’s a more targeted policy for the euro area, and that’s where we think that if they deliver more, it would come through that way.”

While an extension of QE beyond the current end-date of March 2017 is “probable” should there be further action, the ECB could also explicitly target longer-term maturities in the program or purchase more debt from peripheral euro-area nations, Garzarelli said.

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