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Why the US rate cut increases pressure on the ECB

Frankfurt / London The surprise move by the Federal Reserve (Fed) on Tuesday has created a lot of confusion – and caused biting comments. Lorcan Roche Kelly tweeted on Tuesday: “Fed – big rate cut; Bank of Japan – big purchases; Chinese central bank – massive surge in liquidity; ECB – great guys, do your best! ”The Bloomberg author summed up the mood on the markets.

The Fed had recently cut interest rates by half a percentage point, other central banks were also showing significant activity – and the European Central Bank (ECB) remained lame on the previous day’s promise to monitor the course of the corona epidemic and, if necessary, to react. In addition, it published a podcast on Tuesday on how the ECB should engage in climate protection – that was not necessarily the topic of the hour. Many economists are now expecting at least a small rate hike from them, and targeted liquidity support for companies at risk is also under discussion.

The British central bank is also under pressure to act. Her boss Mark Carney said he was in discussion with other central banks, some would adopt “powerful and timely measures”.

Katharina Utermöhl, European economist at the insurance company Allianz, now expects the ECB to cut its key deposit rate from minus 0.5 to minus 0.6 percent in March. This also corresponds to market expectations. Andrew Bosomworth, Germany chief of the world’s largest bond investment manager Pimco, advises waiting for more data. He believes that a rate cut will further weaken the banks and ultimately hinder monetary policy. His advice is therefore, if in doubt, to double the monthly net purchases of bonds to EUR 40 billion.

The Commerzbank believes both are likely, as her chief economist Jörg Krämer reports: the rate hike by 0.1 percentage point and at least a doubling of bond purchases. However, if the ECB buys more interest-bearing paper, it will quickly reach self-imposed limits on government bonds, which are intended to prevent individual countries from benefiting differently. On this point, Krämer expects “flexible” handling and a higher proportion of corporate bonds in purchases.

No need to wait

Sylvain Boyer, European economist at Standard & Poor’s, believes the ECB could even act before its next regular meeting on March 12. “There is no reason to wait,” he says. He also anticipates that the ECB may try to provide targeted assistance to small and medium-sized enterprises. In all likelihood, this would work in such a way that it provides the commercial banks with special, low-cost loans so that they can pass the money on accordingly. Such programs already exist, known by the abbreviation TLTRO, but are not specifically tailored to specific company sizes.

Christine Lagarde

The markets expect more than just nice words from the ECB president

(Photo: Bloomberg)

The problem with central banks is that their monetary policy can only influence demand. They have little to offer to counteract supply bottlenecks that arise, for example, from the demolition of supply chains. Targeted liquidity support would therefore be well suited to address the negative effects of a possibly widespread corona crisis.

But there is also a catch to the useful credit support provided by the ECB: the risk associated with passing it on to companies remains with the commercial banks. And that is difficult to estimate for the financial institutions – after all, the loans are intended especially for companies where it is not clear how long they will suffer from lost production. In order to motivate banks to lend, guarantees would actually be required, but these could only come from governments or government-related institutions.

And that still doesn’t describe the whole dilemma of the central banks. Because with its monetary policy decision of Tuesday, the Fed did not achieve the desired success, at least measured against the market. It did exactly what investors had expected, but because it happened so suddenly, it scared them at the same time. Robin Brooks, chief economist at the IIF Fed organization Jerome Powell, confirmed that he had held “his best press conference so far”.

Summers criticizes the Fed

Even so: US stocks continue to slide, the yield on the ten-year government bond plunged below one percent for the first time in history. Well-known US economist Larry Summers, formerly Treasury Secretary and at times a candidate for Fed leadership, criticized: “The Fed risks scaring people with its rate hike.” He also accused her of wasting her ammunition.

Anders Svendsen, chief analyst at Nordea, however, was of the opinion that without the Fed, the markets would have collapsed even more. He also said, “Anyone who still thinks Powell made a mistake should say what else she should do.”

US economist Mohamed El-Erian, who continuously follows the events on Twitter, later drew his conclusion: “If we now have pity on the Fed, which has come into a situation where it could only lose, then we should do a lot more Have compassion for the ECB. It has minimal monetary scope, opinions among decision-makers are divided, and some of its member countries are in danger of recession. ”

Investors’ eyes are also on London. The next monetary policy meeting of the Bank of England (BoE) is only on March 26, but BoE chief Carney did not rule out a rate cut beforehand. Given the low key interest rate of 0.75 percent, the scope for interest rate cuts is limited, the central bank chief admitted. But there are also other means to help the British economy.

Relief for British banks

The central bank could allow banks to tap their capital reserves in order to provide bridging loans for companies. The central bank’s monetary and fiscal policy committees met this week to assess corona risks. Both will publish new forecasts for the UK economy and banking system at the end of the month. Carney said that the forecasts were being adapted to the new circumstances. He also referred to government fiscal measures. Finance Minister Rishi Sunak will present his budget next week. He is expected to announce additional spending to boost the economy.

But Carney also found calming words: The economic shock from the Corona virus was “possibly large, but ultimately temporary,” said the central bank chief. It could burden growth in the affected regions for one to two quarters. Carney downplayed fears of another financial crisis. The damage will not be as big as in 2008 because the banks are better capitalized and protected against infection, he said. “We will see a disturbance, but no destruction.”

The Bank of England had been simulating a severe economic downturn in China and Hong Kong for years in stress tests, said Carney. This was based on much more radical assumptions than what has been emerging in the corona crisis. Nevertheless, the financial system has proven to be resilient.

More: How the Fed’s action on the stock exchange fizzled out


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