German chancellor Angela Merkel and European Central Bank president Mario Draghi aren't blinking yet. The longest losing streak in European stocks in 11 years and the weakest inflation since 2009 today intensified pressure on the managers of the euro zone's already ailing economy to deliver fresh stimulus programmes.
Battle-hardened by the debt crisis which almost broke the euro two years ago, policy makers are refusing to panic as they argue enough help is in the pipeline. The lesson of that last turmoil is nevertheless that investors may ultimately force action with taboo-busting quantitative easing from the ECB likely drawing closer as deflation fears intensify.
"The main story really is that the recovery is very weak, very fragile, and something has to happen," said Martin Van Vliet, an economist at ING Groep NV in Amsterdam.
“Markets are increasingly expecting they’ll have to do sovereign QE.”
The euro zone is again at the epicenter of a global rout in financial markets as investors increasingly fret its toxic mix of weak growth and sliding inflation may become the norm elsewhere as central banks run out of ways to provide support.
With Europe straining amid tit-for-tat sanctions on Russia, Germany this week showing fresh signs that it is no longer immune to the slowdown in its neighbors.
Confirmation today that inflation slowed to just 0.3 per cent in September helped drive the Stoxx Europe 600 Index down almost 2 per cent. Germany’s 10- year bond hit a record low.
Waiting Game
For the moment, policy makers are holding to their view that the region needs time rather than new stimulus even with prices already shrinking in Italy, Spain, Greece, Slovakia and Slovenia.
"I think they're surprised by the market correction," said Michael Schubert, an economist at Commerzbank. "They'll be hoping this turmoil will pass on its own."
MsMerkel, the leader of Europe’s largest economy, set the tone today by telling lawmakers in Berlin that existing economic aid had been underused and now wasn’t the moment to ease up on the fiscal discipline she credits with bringing stability to the continent.
"It's unsatisfactory that only a small portion of the €6 billion provided for fighting youth unemployment have been disbursed" in the European Union, Ms Merkel said.
“We in Germany are showing that growth and investment can be strengthened without leaving the path of consolidation.”
Deficit Rebuff
That was a direct rebuff to countries such as France and Italy that advocate deficit spending in preference to the reforms Ms Merkel would prefer they make to their budgets and labor markets. It may also annoy US president Barack Obama's administration after its Treasury Department yesterday said Germany needed to do more to boost "persistently weak" domestic demand for the good of global growth.
That’s criticism that was made throughout the debt crisis that spread from Greece, as the US and others called on Germany to do more to stem the threat of contagion.
In the end, Ms Merkel didn’t stand in the way of Mr Draghi unveiling a bond-buying plan to defend the euro.
Even after her government lowered its economic forecast for this year and next , Ms Merkel said the current environment cannot be compared with previous periods of market and economic turbulence.
“The crisis isn’t overcome in a lasting way,” she said. “We have to pursue our efforts for sustainable growth, solid public finances and job creation resolutely.”
The ECB is also holding its course after cutting interest rates to a record low, offering banks new cheap loans and wrapping up a review of bank balance sheets.
Such steps have helped drive down the euro, providing another source of stimulus if it bolsters demand for exports.
Having announced last month it would buy private-sector assets as soon as this month to provide the region with new liquidity in the hope of easing credit further, it has now agreed on a legal framework for buying so-called covered bonds, according to two euro-area officials.
The ECB's Governing Council signed off yesterday on two acts to officially establish the program and detail its implementation, the people said. One of them said policy makers still need to agree on issues including accounting.
Mr Draghi set the end of this month as a deadline for purchases to start. The ECB president last week acknowledged that boosting his institution’s balance sheet by buying assets or accepting collateral for loans was the last monetary policy option for him as he urged governments to do their part for growth by spending where they can and making their economies more flexible.
If the latest round of measures flop, Mr Draghi will still come under renewed pressure from investors to start buying sovereign debt as other central banks have already done. So far he has limited himself to saying more unconventional policies could be deployed if needed.
Bloomberg
