A decision for eternity

13 September 2019

Mario Draghi said goodbye to his office yesterday, as he made himself known in office: with a far-reaching monetary policy decision. What does his "decision for eternity" mean?

At its meeting yesterday, the Governing Council of the European Central Bank decided on a number of things, including a lowering of the deposit rate to -0.5% and a resumption of the bond purchase programme from November. Then 20 billion euros of government bonds, mortgage bonds, corporate bonds or whatever else the ECB can buy will be bought every month.

Above all, the latter decision is not without a certain piquancy. On the one hand, Draghi is paving the way for the designated ECB President Christine Lagarde to head the ECB. On 1 November 2019, she will follow in the footsteps of the great "maestro". Draghi has already set the course for 1 November so that she has time to get used to the new situation. But even more: he has apparently prescribed the press conference texts for Lagarde for the first months until well into 2020. Because the purchase program is valid indefinitely - until the day on which "the inflation rate is close to 2%, but below 2%, and not only short-term but lastingly stable close to 2%". So probably into the very distant future!

Normally outgoing presidents do not make such far-reaching decisions at the end of their term of office. The commitment of the successor would be too strong. It can therefore be assumed that this decision was made with the knowledge and approval of Madame Lagarde. It is not without a certain humour that this decision was apparently taken against the open resistance of Germany, France, the Netherlands, Austria and Estonia.

In other words: half of Europe was actually against this decision and yet Draghi enforced it - and in case of doubt proved it valid for eternity. This is close to the scandal and clearly shows what a lost position stability-oriented central bankers are fighting for when the "Club Med" or politicians take over the reins of the central bank's activities.

In our blog "Waiting for death" we have highlighted the unattractiveness of the asset class "federal bonds". Following these ECB decisions, it should be clear to everyone what the hour has brought for bond investors. Because a purchase program "forever" means either the final break with all euro contracts and the entry into full state financing (a modification of the OMT program from 2012 that failed before the Constitutional Court!). Or Draghi and his successor get what they ordered: inflation of 2% or more.

Considering that federal bonds with a maturity of up to 30 years still yielded less than 0%, it is clear what this means for the holders of these bonds. So we can already mark yesterday in the calendar and the interest rate charts. But one will probably be able to recognize it in historical charts even without such a mark.

A positive news of yesterday was the introduction of the so-called "tiering" in the deposit facility. This means that banks will no longer have to pay the reduced rate of -0.5% for a certain part of their deposits held with the ECB, but will be remunerated at 0%. A multiplier of 6 (!) on the deposits (minimum reserves) to be held by the banks at the ECB has been decided. This takes a lot of pressure off the banks' shoulders in two respects.

On the one hand, it avoids having to apply the negative interest rate to smaller account balances as well. And on the other hand it hardly makes sense for banks now to ask their deposit customers to migrate. But this decision was probably not made out of concern for the profitability of the banks, but is simply due to the fact that with a comprehensive introduction of minus interest rates, as it would have been unavoidable without this "tiering", an escape of investors from account balances into cash or alternative forms of investment such as gold would have been expected. Psychologically a negative interest rate is something completely different than a zero interest rate! The ECB knows that with its "policy from the poison kitchen" it is no longer far removed from the complete loss of confidence.

Draghi has therefore taken note of the fact that the possibilities of his monetary policy are limited. And so we come to the actual core of yesterday's decision, namely the ECB's open invitation to the member states (first and foremost Germany) to increase government spending substantially. The absurdity of our monetary system could not be demonstrated more impressively than that, from the point of view of the central bank, the euro and the stability of our economic system can only be secured by significantly higher government debt and subsequent inflation.

Anyone who still thinks that investments in money and bonds are a sensible investment for the next few years also believes that the storks will bring the children.