The European Central Bank is turning on the stimulus taps again, pushing interest rates further into negative territory in order to support the region’s flagging economy.
The central bank said Thursday that it would cut its interest rate for deposits by 10 basis points to minus 0.5%, and keep them there or lower until the inflation outlook improves.
‘Whatever it takes’ has just been extended by ‘as long as it takes.'”
Carsten Brzeski, chief German economist at ING
It also announced that it would start printing money again, promising to buy €20 billion ($22 billion) in bonds and other financial assets per month starting in November. The bank said it would continue the purchases for “as long as necessary.”
Negative rates penalize banks for holding cash rather than lending it out, while bond-buying helps to drive down yields, reducing the cost of borrowing for governments and companies.
The ECB also said it would take steps to shield banks from the effects of negative rates, which have been hurting the region’s lenders for years.
Investors initially welcomed the stimulus. The euro dropped 0.5%, while yields on benchmark German and Italian bonds moved lower and European stocks jumped. But within a few hours, German bond yields and the euro had moved back up.
Fighting ‘prolonged’ uncertainty
Interest rates were already at historic lows in Europe, and the ECB had judged the economy to be on solid enough footing late last year to halt its asset-buying program after creating €2.6 trillion ($2.9 trillion) in new money since 2015.
Yet Germany, Europe’s biggest economy, is now on the brink of recession, and the US-China trade war is dragging on growth.
ECB President Mario Draghi told reporters on Thursday that the current slowdown “mainly reflects the prevailing weakness of international trade in an environment of prolonged global uncertainties.”
He added that European manufacturing had been hit especially hard. The central bank cut its GDP forecast for this year to 1.1% from 1.2%, while expectations for 2020 were slashed to 1.2% from 1.4%.
US President Donald Trump criticized the return to stimulus, saying on Twitter that the ECB is “trying, and succeeding, in depreciating the Euro against the VERY strong Dollar, hurting U.S. exports.”
Trump repeated his call for the US Federal Reserve to act, having demanded that the Fed push interest rates to zero or lower earlier in the week.
Asked to respond to Trump’s remarks, Draghi said the ECB’s job is to achieve stable inflation.
“We don’t target exchange rates, period,” he said at the press conference.
Calling all stimulus
The meeting on Thursday was Draghi’s penultimate as ECB president before he hands the reins to former International Monetary Fund chief Christine Lagarde in November.
He used the occasion to make clear that he believed the central bank had done all it could, and it was now time for other policymakers to step up.
“Governments with fiscal space should act in an effective and timely manner,” he said, adding that fiscal policy should become the main instrument used to boost inflation.
Germany is debating fresh stimulus measures, but there’s skepticism that the country, which is notoriously wary of borrowing, will approve the kind of spending package that could give the region a jolt.
For Draghi — who is credited with saving the euro after pledging to do “whatever it takes” to preserve the currency during Europe’s sovereign debt crisis — it’s a fitting final act. Though investors had expected a deeper interest rate cut, the lack of an end date on the bond-buying program, known as quantitative easing, or QE, was a surprise.
“Today’s decisions have anchored and enshrined the Draghi legacy,” said Carsten Brzeski, chief German economist at ING. “‘Whatever it takes’ has just been extended by ‘as long as it takes.'”
Draghi has his critics. Inflation has been stubbornly low in Europe and around the globe. Some questioned whether the moves would have a real impact, and warned they could create a dangerous new normal.
“The ECB is now going all in on achieving what we think is a structurally unattainable inflation target,” said Claus Vistesen, chief eurozone economist at Pantheon Macroeconomics. “That is a recipe for more or less permanently negative rates, and potentially even QE in the eurozone.”
And the launch of the so-called “tiering” program to mitigate the impact of negative rates on banks could have a side effect of its own: it gives the ECB room to push interest rates down even further, and allows it to keep them there even longer.