The ECB waits for Merkel

No one expected the ECB meeting in Paris to deliver anything departing from its current forward guidance. Pledging that easy money will prevail for a long time, rates were kept unchanged. Draghi openly confessed that members of the board were divided on this issue. Some argued low inflation levels in September, 1.1% down from 1.3% in August, sent a warning message that demand was not taking up as expected. Others pointed to clear signals that recession is over as justifying no action being taken. While both sides have convincing arguments, only Berlin can trigger a shift in monetary policy. Any loosening now would irritate both German voters and the incoming Chancellor.

Draghi was eager to emphasise the ECB’s resoluteness in addressing any potential problem, but his solemn oath sounded rather hollow. In the press conference, he hinted a new long term liquidity facility might be launched in future. This LTRO would provide further support for invigorating the economy while alleviating pressure on short-term interest. Ever since Bernanke voiced the need of tapering the massive asset buying programme, interbank rates in Europe are squeezing credit conditions. Yet, Berlin has the final say on this.

Draghi also showed concern about the huge gap in credit costs for SME between countries. He blames financial fragmentation for such untenable interest differentials, obliging Europe to run an excess liquidity policy. Channelling extra money to the banking system has blatantly failed to curb this disturbing fact. Only powerful incentives, such as accepting SME credit backed assets as collateral, could mitigate this shortcoming. Once again the ECB will refrain from endorsing any bold measure until Berlin green light is secured.

Only dramatic events could force Draghi and his colleagues to switch way from their complacent wait-and-see mood.  Should the White House and Capitol Hill prove unable to break the current shutdown and debt ceiling deadlock, the ensuing default would propel the ECB in taking emergency action. Let’s cross fingers this threat won’t materialise, as Europe shows a dismal record in managing even minor crises.

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'.

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