Super Mario’s limited powers

ECB's chairman Mario Draghi

Mario Draghi surprised the markets with a bold move no one expected. That said, he openly conceded his margin for manoeuvre was running out. In a sincere confession few central bankers would indulge in, Draghi acknowledged there was little room for extra rate cuts. As a result, the euro surged after dropping for a short time. He curbed any speculation the ECB was aiming to deliver a competitive depreciation, as Japan had tried and failed to achieve a couple of months ago.

The ECB made it crystal clear that the aim of its move was to preserve banking solvency. It cut its rate by 0.1% while allowing easy funding at negative prices for credit institutions, ensuring liabilities could not damage their profits. Yet in terms of credit easing, its move can only succeed if banks convey the cheap money policy to potential debtors. And this is something which is far from being evident, as the driving force in credit expansion lies in growth and ensuing demand for extra funding. The ECB’s pledge to buy first-rate bonds issued by solvent corporations will have little impact as far as their requirements are concerned. They already enjoy enviable conditions.

The key message conveyed by Draghi was that monetary policy had reached its utmost limits. No one could expect further easing as further moves could damage banking solvency. So from now on, very little in the way of stimuli is likely to emerge from the ECB’s arsenal. A serious threat to European growth, should it prove unable to find an alternative way of supporting its failing economy.

No QE has worked properly unless suitably anchored by an expansive fiscal policy. A prospect that seems out of reach in Europe. Most countries face a dismal public finances’ situation, dealing with huge deficits and unmanageable debts. And those economies which enjoy a favourable financial situation lack the will to increase demand at home.

Structural reforms lag behind, leaving little room for enhanced competitiveness. Europe seems unaware of the challenges it is facing. As monetary policy reaches its limits, no other option is on hand to provide it with a safe way out. Draghi’s warnings should be taken seriously.

About the Author

JP Marin Arrese
Juan Pedro Marín Arrese is a Madrid-based economic analyst and observer. He regularly publishes articles in the Spanish leading financial newspaper 'Expansión'.