By signaling its commitment to look at all options before deciding to increase its quantitative easing programme, the ECB has shown some sheds of wisdom. But it is still narrow-minded in its diagnosis of the effectiveness of quantitative easing and its forecasts are far too optimistic.
Today, at its meeting in Frankfurt, the Governing Council of the ECB did not decide to extend or adjust its quantitative easing programme. We are relieved that the ECB has decided not to extend QE – despite high expectations from market commentators.
Indeed, in our view, extending a programme which has shown no concrete outcome on the inflation target would have been a premature and unwise decision.
Indeed, when looking at the evidence, it is clear that the ECB’s quantitative easing programme has not resulted in higher levels of inflation in the eurozone, which is the main objective of the ECB.
Looking ahead, there is no grounds for believing that QE will achieve its intended objectives in the near future. In fact, the ECB just downgraded its inflation forecasts after bleak statistics over the summer.
According to its own staff forecasts, the ECB believes inflation will only be close to 1.6% by the end of 2018. For the record, such forecasts have been continuously downgraded since 2013, which shows that they are generally over-optimistic and that the ECB’s policies are consistently under-delivering.
In the face of all this evidence, it is therefore quite embarrassing for the ECB’s president to declare that the asset purchase programme is ‘fully working’ and that the “transmission of monetary policy has never worked better than it does today”.
This goes even against the findings from the ECB’s lending survey, which shows very weak growth of credit, which is mostly oriented towards non-productive categories of loans. It is worrying that the ECB is so far showing so much obstination in pursuing a failing strategy. Even if one believed that QE was necessary at the time it was decided, it is now increasingly difficult to argue (or shall we say believe?) that more QE would be helpful.
It is therefore time to look at the alternatives. In this regard, it is positive that the ECB insisted on the fact that all options should be considered by its task force committees.
‘Helicopter money’ has not been ruled out
Noteworthily, we appreciate that Mario Draghi hinted that the so called “helicopter money” idea whereby the ECB would make cash transfers to all households was not ruled out by the ECB. By effectively stating that “we have not discussed whether we should discuss yet or not”, Mario Draghi clearly says that no decision has been made, therefore it is still an option for future decisions (contrary to what some media have reported in the past).
In addition, the ECB’s president made an interesting remark that the focus of structural reforms should include “the provision of an adequate public infrastructure, which are vital to increase investment and boost job creation.”
As we have been arguing the past, for quantitative easing to work in stimulating growth and investment, it should indeed be directly targeted towards productive investments, and in particular public and sustainable infrastructure. There is little prospect for an increase of investment so long as monetary policy is fully relying on a fragile banking system that is currently reluctant to do its job of lending to the real economy. Similarly, demand for productive credit remains too low, partly because the poor economic outlook.
To address this chicken-and-egg issue, we believe some kind of coordination between the ECB’s monetary policy and fiscal policies in the eurozone would be ideal. At the same time, we are also very well conscious that other political barriers are preventing a significant coordinated fiscal stimulus from happening. In that context, the ECB should do all it can (and it can do a lot better) to provide price stability in the eurozone, regardless of the political developments on the fiscal front.
Making payments directly to households is therefore virtually the only contingency plan available in case macroeconomic circumstances were to deteriorate further. It is vital that enough resources are dedicated into researching how to implement this concept, if necessary. In our view, helicopter money should be seen purely as a monetary policy instrument to be used independently from fiscal authorities, and for the single purpose of price stability. This is indeed consistent with the legal framework of the Eurozone which strictly prohibits monetary financing to governments while giving a clear mandate to the ECB with much flexibility on which instrument Frankfurt may use.
So long as inflation remains way below target, and subject to the possibility of a new recession, we urge the ECB to dedicate research on possible alternatives. With the prospect of the ECB looking for all options, we stand ready to provide to the ECB’s staff with our knowledge and expertise on alternatives to quantitative easing that would be more effective in delivering the price stability objectives of the ECB.