Christine Lagarde and the ECB have switched from monetary to fiscal policy

The Corona Virus pandemic has really rather caught the European Central Bank (ECB) on the hop. You see it was not supposed to be like this on several counts. Firstly the “Euro Boom” was supposed to continue but we now know via various revisions that things had turned down in Germany in early 2018 and then the Trumpian trade war hit as well. So the claims of former ECB President Mario Draghi that a combination of negative interest-rates and QE bond buying had boosted both Gross Domestic Product ( GDP) and inflation by around 1.5% morphed into this.

First, as regards the key ECB interest rates, we decided to lower the interest rate on the deposit facility by 10 basis points to -0.50%……..Second, the Governing Council decided to restart net purchases under its asset purchase programme (APP) at a monthly pace of €20 billion as from 1 November. We expect them to run for as long as necessary to reinforce the accommodative impact of our policy rates, and to end shortly before we start raising the key ECB interest rates.

As you can see the situation was quite problematic. For all the rhetoric who really believed that a cut in interest-rates of 0.1% would make a difference when much larger ones had not? Next comes the issue of having to restart sovereign bond purchases and QE only 9 months or so after stopping it. As a collective then there is the issue of what all the monetary easing has achieved? That leads to my critique that it is always a case of “More! More! More” or if you prefer QE to Infinity.

Next comes the issue of personnel. For all the talk about the ECB being independent the reclaiming of it by the political class was in process via the appointment of the former French Finance Minister Christine Lagarde as President. This of course added to the fact that the Vice President Luis de Guindos had been the Spanish Finance Minister. Combined with this comes the issue of competence as I recall Mario Draghi pointing out he would give Luis de Guindos a specific job when he found one he could do, thereby clearly implying he lacked the required knowledge and skill set. It is hard to know where to start with Christine Lagarde on this subject after her failures involving Greece and Argentina ( which sadly is in the mire again) and her conviction for negligence. Of course she has added to that more recently with her statement about “bond spreads” which saw the ten-year yield in Italy impersonate a Space-X rocket until somebody persuaded her to issue a correction. Although as the last press conference highlighted you never really escape a faux pas like that.

Do you now believe that it is the ECB’s role to control the spreads on government debt?

The Present Situation

This was supposed to be one where monetary policy had been set for the next year or so and President Lagarde could get her Hermes slippers under the table before having to do anything. Life sometimes comes at you quite fast though as this morning has already highlighted. From Eurostat.

In April 2020, the COVID-19 containment measures widely introduced by Member States again had a significant
impact on retail trade, as the seasonally adjusted volume of retail trade decreased by 11.7% in the euro area and
by 11.1% in the EU, compared with March 2020, according to estimates from Eurostat, the statistical office of
the European Union. In March 2020, the retail trade volume decreased by 11.1% in the euro area and by 10.1%
in the EU.
In April 2020 compared with April 2019, the calendar adjusted retail sales index decreased by 19.6% in the euro
area and by 18.0% in the EU.

As you can see Retail Sales have fallen by a fifth as far as we can tell ( normal measuring will be impossible right now and the numbers are erratic in normal times). Also there were large structural shifts with clothing and footwear down 63.5% on a year ago and online up 20.9%. Much of this is due to shops being closed and will be reversed but there is a loss for taxes and GDP which is an issue for ECB policy. Other news points out that May has its troubles as well.

Germany May New Car Registrations Total 168,148 -49.5% Y/Y – KBA ( @LiveSquawk)

Policy Response

For all the claims and rhetoric is that the ECB has prioritised the banks and government’s. So let us start with The Precious! The Precious!

Accordingly, the Governing Council decided today to further ease the conditions on our targeted longer-term refinancing operations (TLTRO III)……. Moreover, for counterparties whose eligible net lending reaches the lending performance threshold, the interest rate over the period from June 2020 to June 2021 will now be 50 basis points below the average deposit facility rate prevailing over the same period.

For newer readers this means that the banks will be facing what is both the lowest interest-rate seen so far anywhere at -1% and also a fix for the problems they have dealing with a -0.5% interest-rate more generally. It also means that whilst the bit below is not an outright lie it is also not true.

In addition, we decided to keep the key ECB interest rates unchanged.

In fact for those who regard the interest-rate for banks as key it is an untruth. Estimates for the gains to the banking sector from this are of the order of 3 billion Euros. Yet another subsidy or if you prefer we are getting the Vapors.

I’m turning Japanese, I think I’m turning Japanese, I really think so
Turning Japanese, I think I’m turning Japanese, I really think so

Fiscal Policy

This is what monetary policy has now morphed into. There is an irony here because one of the reasons the ECB has pursued such expansionary policy is the nature of fiscal policy in the Euro area. That has been highlighted in three main ways. the surpluses of Germany, the Stability and Growth Pact and the depressive policy applied to Greece. But that was then and this is now.

Chancellor Angela Merkel said Wednesday that Germany was set to plow 130 billion euros ($146 billion) into rebooting an economy severely hit by the coronavirus pandemic.

The measures include temporarily cutting value-added tax form 19% to 16%, providing families with an additional €300 per child and doubling a government-supported rebate on electric car purchases.

The package also establishes a €50 billion fund for addressing climate change, innovation and digitization within the German economy. ( )

Even Italy is being allowed to spend.

Fiat To Use State-Backed Loan To Pay Italy Staff, Suppliers ( @LiveSquawk)

This is the real reason for the QE and is highlighted below.

FRANKFURT (Reuters) – The European Central Bank scooped up all of Italy’s new debt in April and May but merely managed to keep borrowing costs for the indebted, virus-stricken country from rising, data showed on Tuesday.

The ECB bought 51.1 billion euros worth of Italian government bonds in the last two months compared with a net supply, as calculated by analysts at UniCredit, of 49 billion euros.


Thus President Lagarde will be mulling the words of Boz Scaggs.

(What can I do?)
Ooh, show me that I care
(What can I say?)
Hmmm, got to have your number baby
(What can I do?)

Plainly the ECB needs the flexibility of being able to expand its QE bond buying so that Euro area governments can borrow cheaply as highlighted by Italy or be paid to borrow like Germany. We could see the PEPP plan which is the latest emergency one expanded as it will run out in late September on present trends, also the German Constitutional Court has conveniently given it a bye. But she could do that next time. So finally we have a decision appropriate for a politician!

As to interest-rates we see that the banks have as usual been taken care of. That only leaves the rest of us so it is unlikely. We will only see another cut if they decide that like a First World War general that a futile gesture is needed.

25 thoughts on “Christine Lagarde and the ECB have switched from monetary to fiscal policy

  1. ‘Pure’ fiscal policy will be ineffective?
    “ . . . whereby the coefficient for ∆g is expected to be close to –1. In other words, given the amount of credit creation produced by the banking system and the central bank, an autonomous increase in government expenditure g must result in an equal reduction in private demand. If the government issues bonds to fund fiscal expenditure, private sector investors (such as life insurance companies) that purchase the bonds must withdraw purchasing power elsewhere from the economy. The same applies (more visibly) to tax-financed government spending. “

    Click to access Werner_IRFA_QTC_2012.pdf

  2. This is New World of economics and if the previous one not worked just tweak things are just change the game of monopoly and see where it gets us.

    lets not forget most the people at the top do quite nicely thank you and we plebs are just numbers when one goes to war they know many will die for the sake of those who are giving the orders.

    I have no doubt the leaders and most bankers are trying their best to prevent a full blown economic collapse but really question whether they really know what they are doing.

    In a world trading environment where one country relies upon another country and all have different and complex fiscal and monetary polices and mechanisms, there will always be obstacles in the system which will be difficult to resolve.

    No man has the intelligence to create a perfect system in order to create a stable worldwide economy, “all have failed said” the Apostle Paul , “All have fallen short of the Glory of God” !

    Sorry if this upsets some posters but mans intelligence is truly limited, and there will never be a worldwide perfect fiscal system which can sort out the worlds problems, not when there is greed and corruption in society.

    • The fact that borders were deliberately left open until after infected holidaymakers returned from Northern Italy; that flights were still coming in daily from China, etc. tells me that UK infection was planned. That tells me that it was wanted for a reason. The economic meltdown it has caused was most definitely planned.

      If man’s intelligence is limited, how about a God who supposedly issued his “Word” three times, always to Middle Eastern illiterate psychotics, when there was an advanced Chinese society, where he could have got his message across far better?
      Either God is a stupid twat, (not to mention evil, cruel & vindictive) or there is no God.
      I am happier believing in no God than yours.

      • therawbuzin,

        Are you telling me the UK government planed to allow the infection? That would be bizarre and I cannot accept that. I would accept the belief that the virus escaped from a laboratory however.

        As for your views on a a God I suspect you haven’t studied the Bible but that is your choice, and choices and actions have consequences.

        As to whether you are happier in the belief that there is no God that is your choice but there have been numerous studies which confirm most people are happier in a belief in God whether it be Catholic, COE or Judaism and also the Muslim faith.

        In actual fact and with respect you do not appear to be happy having to use offensive language to press on with your point neither does it say do anything for your upbringing and intelligence.

        I don’t mind having a sensible debate with anyone but prefer to have a conversation with people who don’t need to use offensive language.

        • Why does one have to have studied the bible (which is full of contradictions) to express a disbelief in God? The bible employs far more robust language than Mr. Buzzin and Christopher Hitchens made more far sense in his talks and lectures than any priest I have listened to. If God had any interest in the world, Covid virus amongst other things proves it is waning. Either it (God) doesn’t exist or is disinterested in the actions of the ants singing its praises.

        • I only reply to religious posts, I’m no more interested in a discussion with religious zealots (absolutely pointless, waste of time, their belief is not based on logic, reason, or even emotion) than I am interested in educating the food I grow.
          If the greatest “sin” of atheism is offensive language, it has a long, long way to go to catch up with the offensiveness of religion.
          AFAIK, no atheist has ever called for the brutal murder of believers.

  3. QE to Infinity
    When I were a lad …. and our purple & white Telly was pretty much steam driven (OK valves!)
    Last thing at night we would turn it off, the picture would slowly shrink until it was just a dot in the middle, then the electronics would make a final satisfying “phut” sound and the dot would vanish and the screen go dark.
    That, I suspect, is what QE to Infinity implies…….

    • Hi Colin

      I do remember my parents having one of those, It was amazing to look at the valves which of course were considered high-tech then. TVs were a lot of money relative to wages hence the advent of Radio Rentals and the like and it was a bit of a deal when we bought one rather than rented.

      My last TV also went “phut” but I am afraid rather than being satisfying it was that’s all folks! Like in the cartoons.

  4. Great blog as usual, Shaun.
    As you know, the Bank of Canada announced when it reduced the overnight rate to ¼% that this was the effective lower bound (ELB) and that they would not be following the ECB into negative interest rate territory. As the Bank of Canada used to operate the overnight rate was the mid-point between a bank rate 25 basis points higher and a deposit rate 25 basis points lower. Any move to a lower overnight rate under this system would mean a negative deposit rate and hence a toe in the negative interest rate waters. I asked the Crisis Working Group on Monetary and Financial Measures of the C.D.Howe Institute about this on April 23 and they never deigned to respond to me. Last Thursday, three members of the CDHI Monetary Policy Council, Edward Carmichael, Thorsten Koeppel and Angelo Melino, all recommended that the overnight rate move to 0.10% on June 3, so there is obviously a difference of opinion about what the ELB of the overnight rate and I sent another request for clarification to Kristine Gray, the CDHI official responsible for requests related to the MPC. By the way, the Bank of Canada didn’t drop the overnight rate yesterday but kept it at ¼%.) So far I have received no response. I also requested clarification from the Bank of Canada this week but have not received a reply. A drop in the overnight rate from ¼% to 0.1%, would, of course, not mean much, but if it did mean a negative deposit rate it would surely be a historic move by our central bank. You would think that under those circumstances both the Bank of Canada and the C.D. Howe Institute would want to be as transparent as possible, but obviously this is not the case.

    • It would be interesting ( if you get the chance) to ask what exactly they hope to achieve with negative rates and the mechanism by which this would happen. I fear that this is the triumph of text book theory over Practical experience.

      • Negative interest rates can achieve the rich to spend their capital bear in mind its not just capital at risk from erosion from negative interest rates, it could be further eroded by inflation as well.

        Now there is a risk to this policy and that is money gets placed in shares and property but both are at risk as some stage in a world downturn.

        Unfortunately there is no perfect solution in complex world economics when each country has a different way of dealing with things.

        All the various countries and financial institutions can only try different methods of financial economics imo and refer to my earlier post, we are all fallible human beings with limited intelligence even Professor Hawkins original theory on the black hole was found to be flawed.

      • Thank you for that link, Shaun. I had forgotten about the speech by a senior Bank of Canada official the day after the interest rate announcement so thank you for reminding me. I had never seen Toni Gravelle give a speech before as he has only been a deputy governor since October 1. If he isn’t the first Franco-Ontarian to be a member of the Governing Council, he is the first one I have heard of. It was Kim Mackrael of the Wall Street Journal who asked Gravelle about the ELB. It seemed an odd question, as Gravelle only makes a casual reference to it in his speech: “we announced that we kept our policy interest rate at the effective lower bound”. Gravelle said it was mentioned because there had been some pushback in the media that this was actually the effective lower bound. Maybe the Bank of Canada’s Governing Council read your blog every day. Gravelle is definitely a glass-half-full kind of guy. When he was asked how when the economy got back to normal things would be different under USMCA from NAFTA he made no mention about monetary policy being constrained by Chapter 33 of USMCA to protect against currency wars. I suspect the American negotiators will want to put a similar chapter into a UK-US FTA whoever is president in 2021. Chapter 33 was not Orange Man’s idea, even though there was never such a chapter in previous US trade agreements. A lot of the language was actually taken from what the Obama administration wanted to put into the Trans-Pacific Partnership when the US was still part of the negotiations.

  5. This is Lagarde’s speech

    It comes back to the usual thing – the central banks are trying to get consumers and companies to spend and in the case of companies, also invest. Buying bonds will make no difference, except to spread fear further and to try to act as a backstop on the debts of the idle Southern Europeans (a dam which will soon burst). Consumers and companies are reluctant to spend in an uncertain environment and however much you threaten to erode the value of their cash, they ignore the threats.

    Raise rates and you will give savers the confidence to spend and companies will be able to work out which projects would offer real returns. It will tank the property market and do some damage to equities for the highly-leveraged, but then as I am often told when bemoaning the low returns for skills compared with property, some have made wrong investment choice. This is really not hard – take some pain for a couple of years, as it beats twenty years of stagnation.

    • Hi dave

      The problem is that they are trying to get consumers and businesses to act with confidence whilst acting as if we are in an emergency. So they undermine their own foundations. As Forbin has pointed out over time a 0.5% Bank Rate was supposed to be an emergency one. As for the Euro area the message of -0.5% as an interest-rate does not help.

      It is hard to generate “animal spirits” in such an environment.

  6. So the ECB print up over a trillion in new funny money and the Euro soars and there is no consequence, the Bank of England do the same and it used as the reason for the huge falls against the Euro, and there is not one article in any newspaper or TV bulletin questionning this contradiction.

    • It stops an Italian debt crisis and the euro imploding, so with Germany standing behind the euro, there is confidence. The BoE runs our “independent” currency, which has been devalued for over 50 years to nobeffect and we really are in trouble with an ND Brexit at the end of 2020. So, the GBP tanks.

  7. Three words regardless of all this fiscal stimulus and building up massive debts at some stage the:

    Balloon will burst!

    At the moment the fiscal stimulus and banking and government may in the short term prevent some of the damage but there is a limit to what can be done when a financial system gets out of control.

    Neither can one look at history to fully ascertain the next recession or depression and or how long they will last.

    History can outline where we may have gone wrong but cannot predict the future.

  8. The ‘Monetary Authorities’ may be able to ‘manage’ demand, but it is supply that is the problem?

    ” Planet Earth, though, does not work that way. To have what humans call wealth, you have to have resources and you have to have the means to extract, transport and utilise these resources in order to create the goods and services that are bought and sold in the global marketplace. But before you can do any of that, you have to have energy. And while the new currency being borrowed into existence in the financialised economy was a claim on energy, it was not energy itself. . . .
    With oil extraction already past peak, any attempt to return the global economy to its pre-pandemic level via the fabled “V-shaped recovery” is likely to generate oil shortages which could see prices temporarily rise above a depression-inducing $100 per barrel. No amount of central bank financial alchemy is going to add oil to depleted fields or remove the gunk from shutdown wells, pipelines and refineries. And so a black new deal can only occur by diverting a large part of the energy previously used in the wider economy to the extraction of the last of the accessible fossil fuels – in its way, essentially the same imperialism as the green new deal, in which a handful of people in a handful of wealthy states enjoy one last energy-consuming blowout before industrial civilisation crumbles to dust; except in this version we incinerate what remains of planet Earth through runaway global warming.”

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