‘Follow the money” is always the advice. So let’s try to do that. Because that is the key to whether the extraordinary €1.1 trillion programme announced by ECB boss Mario Draghi will work. Consumers and businesses are all asking the same thing: What will it mean for me? On the answer to this question hangs the success or failure of the whole enterprise and a lot of it is going to come down to the unpredictable economic “X factor” known as confidence. The money is there, but do we want it?
Ireland, and the rest of the euro zone, is having a big wad of cash thrown at it via the quantitative easing (QE) programme. The Central Bank of Ireland will go into the market in March and looks set to buy at least €500-€600 million a month of Irish government bonds from investors. On some estimates it could be more, though availability of stock to buy could be an issue. It is free to act, as its existing holdings of Irish debt, taken on after IBRC was liquidated, are mostly of bonds that don’t mature for more than 30 years, and are thus not counted for the purpose of the limits the ECB is setting for its QE programme.
The idea of QE is that it gives banks and investors a lot of new cash to deploy. A lot of Irish debt is held overseas – and Irish institutions hold other euro zone government debt. So it is impossible to get an exact gauge on the extra cash that might be available to provide new lending or investment in Ireland.
But boosted by QE – and the cash they will get in exchange for their holdings of government bonds – banks and investors here will be coming down with cash. There will be no shortage of money for those wanting to borrow it, or for businesses seeking cash from investors. But will there be a demand for these loans? This is the crunch question for QE.
Momentum
There is no doubt there is some positive momentum in our economy at the moment.QE would help to improve this if it boosted euro zone growth and exports. But one sign of how fragile things remain is that the demand for loans continues to drop. Despite all the banks’ ads seeking to offer loans to businesses, first-time house buyers and car purchasers, the total amount of lending is still falling every month. Repayments of debt exceeds new lending. In turn, this shrinks the amount of money working its way around the economy. If QE is to trickle down to the Irish domestic economy, this has to change.
The figures are stark.Today household borrowing is stuck below €100 billion – its lowest level since spring 2004 and a full €10 billion down on a year earlier. Borrowing by companies is just over €60 billion, a level last seen in the summer of 2003. Bankers report that even business overdrafts are not being drawn down.
If you want to see whether QE works or not, watch to see if these trends reverse. If they don’t, then the money created by the ECB will remain “stuck” in the world of high finance and only succeed in boosting the price of assets such as shares, government bonds and commercial property. It will not find its way into the kind of increased level of economic activity that people will feel in their pockets.
Juicy margins
Now part of the reluctance to borrow comes down to the availability and price of loans. Banks have been rebuilding profits by charging retail borrowers juicy margins. For a while they also restricted the availability of credit, though I suspect this period is past. After QE, they should raise money more cheaply. But will they pass on the interest cuts? Regulation may help to put a bit of pressure on, but more competition is needed.
The bigger problem, though, is the lack of demand for new lending. Growth has settled nerves a bit in households and boardrooms, but both are slow-moving back into expansion mode. In some cases, they can’t afford it, but in many cases, it is just a question of confidence. If this trend isn’t reversed, then Draghi’s money will not flow through the Irish economy and the question of what it means for us all will come down to the more pedestrian issues of the interest rates on our borrowings and savings, and the hope that a growth boost in Europe will help Ireland a bit.
I think the row over introducing the ECB’s programme – and particularly who takes the perceived risk – shows that Europe is not in the mood to go further and mutualise debt burdens in the wake of this weekend’s Greek election. This is what the likely election victors, Syriza, will demand, but despite this, any relief of debt looks set to be incremental rather than revolutionary.
So QE is as good as it gets for now, in terms of a move from Europe to boost our economic fortunes. If it is to work, we need to borrow the money the ECB is putting our way. It’s as simple as that.