Grim mutterings about European Central Bank policy can probably be heard echoing around the skyscrapers of Frankfurt's financial district on any given day: Low interest rates, tough supervision, no bonds left out there to buy, etcetera.
David Folkerts-Landau, chief economist of Deutsche Bank AG has taken those concerns to a whole new level, and has just published an excoriating attack on ECB policy. The research note is entitled “The Dark Sides of QE.” Here’s a taste:
“While European central bankers commend themselves for the scale and originality of monetary policy since 2012, this self-praise appears increasingly unwarranted,” he writes, going on to conclude that the “ECB is stuck ... between an unfavorable equilibrium of low growth, high unemployment and zero reform momentum on the one hand and growing risks to core country balance sheets on the other.”
Folkerts-Landau lists a number of the dastardly deeds of the ECB’s 80 billion-euro ($89 billion) a month asset-purchase program, which, lest we forget, has so far achieved its aim of preventing a spiral of deflation in the euro area: Bond prices have lost their signaling function; national balance sheets risk being overburdened; savers are being penalized; asset bubbles are forming. You may recognize some of these arguments.
But the point he chooses to tackle first is the assertion of a causal link between the ECB’s easy monetary policy and a slowing of economic reform in the euro area. This claim is based on data from the Organization of Economic Cooperation and Development on the extent to which suggestions they’ve made to countries in the euro area on how to boost the capacity of their economies are actually being carried out.
The data seem clear: “Deficit countries” – France, Estonia, Greece, Ireland, Italy, Portugal, Slovakia and Spain – made a much greater effort in 2011 and 2012 than they did last year. Indeed, the OECD itself says that in the early part of the European debt crisis “reform responsiveness” was greater in countries that were facing more difficult circumstances, though that correlation has broken down somewhat lately. The OECD also warns against over-interpreting year-over-year changes too much, as many types of improvements to economic frameworks take years to complete.
But Folkerts-Landau draws a conclusion that the OECD does not, namely that the reason for this slowdown is the more favorable conditions that the deficit countries are enjoying on bond markets, in particular after the ECB announced its OMT bond-buying plan in 2012. That compressed bond yields as well as the urge to reform, he argues.
“Any incentive to reform disappeared with the guarantee to bail out countries in need via OMT,” he writes, not mentioning, for instance, the labor-market reforms that Italy has made since then or the constitutional revamp that’s scheduled for December.
And in the end Folkerts-Landau comes back to what has been the classic point of German criticism of ECB policy, namely that it creates “moral hazard.” While the presence of a central bank ready to step in in times of stress always bears the risk of encouraging even more lax behavior in the future, Folkerts-Landau sees the ECB under President Mario Draghi on a completely different scale.
“With Mr Draghi’s promise of ‘whatever it takes,’ the implied moral hazard was pushed into a much larger dimension,” he writes. “It remains to be seen how it will escape from this dilemma of its own making.”