by Nomi Prins
Regardless of this star power, Carney was nervous about the sinking euro and its impact on sterling, which had slid on the notion that the BOE might keep interest rates low. The BOE hadn’t cut rates since March 2009 (when it cut them from 1 percent to 0.5 percent). As far as conjuring went, his colluding role had been tempered in comparison to Draghi’s, but it remained in ready mode. On November 5, 2015, Carney said he had “no regrets” about the Bank of England voting 8–1 to keep rates where they were rather than raise them, as the Fed might do.94 He had made it clear for months that he wasn’t about to advocate raising them anytime soon, and that would remain his position for years.
In a November 11, 2015, speech at the Bank of England Open Forum in London, Carney observed, “It is hardly surprising that only a third of people believe markets work in the interests of society. The more people see, the less they like. People trust markets less with age. And yet, most people think markets will become ever more important. And they’re right. As I wrote this week to G20 Leaders, the structure of financial system has changed significantly since the crisis. Virtually all of the net credit since the crisis has been from the bond markets and the size of assets under management has increased by 60 percent to $74 trillion.”95
Three days later, the ECB announced it would cut the deposit facility rate further to –0.3 percent.96 The euro rose because of rapid repurchase by traders who had shorted it on expectations of a bolder ECB move. For Draghi, this reopened the possibility of more stimulus.
On December 15, Greek prime minister Alexis Tsipras agreed to a set of reforms that included allowing Greek banks to sell bad business loans to foreign buyers. This would free up capital for the banks and release the next €1 billion (£727 billion; US$1.08 billion) of the bailout.97 The next day, the Fed hiked rates 25 basis points, the first increase in nearly a decade.
By late December, the euro was on the rise.98 It marked its best results since April against the dollar, even with the massive QE program in Europe and the first US rate hike since 2006.
The move was short-lived. On December 23, 2015, expectations that US and European monetary policy would continue to diverge drove the dollar up 0.4 percent against the euro.99 Yellen’s actions and rhetoric contrasted with Draghi’s enthusiastic pursuit of monetary easing, which led to a stronger US dollar. The markets had just taken a moment to fully process the Fed’s hike.
YET MORE EASING IN EUROPE
Even though the other two G3 central banks took up the conjured-money slack where the Fed left off, on January 7, 2016, the DAX, the German stock market index, fell more than its other euro neighbor exchanges, by 7 percent. Draghi and Bank of Japan governor Kuroda expanded their bond purchase programs with a vengeance to compensate for the frenetic sell-offs in their respective areas.
Meanwhile, emergent countries faced graver economic problems due to low commodity prices and a reduction of China’s demand. Brazil confronted its most chaotic period in years resulting from currency depreciation, corporate scandal, and political upheaval.
Russia was plagued by low oil prices but eventually staged a recovery in the ruble and stock markets while caught in the crosshairs of public opinion during US elections. Europe tried to hold itself together amid growing dissent within and between countries.
On January 6, 2016, after nearly eight years of the Fed’s money-conjuring policy, the BIS released a research paper that indicated the strategy of global central banks was based on a false premise: it relied too much on using inflation as a barometer, and if inflation was low, central banks could keep the cost of money low, which had the effect of spurring more debt creation. It was a self-perpetuating cycle.
A report for which BIS chief economist Claudio Borio was the lead author observed, “If loose monetary policy contributes to credit booms and these booms have long-lasting, if not permanent, effects on output and productivity, including through factor reallocations, once the bust occurs, then it is not reasonable to think of money as neutral over long-term policy horizons. This is at least the case if a financial crisis erupts.”100
The research indicated it was not “surprising if monetary policy may not be particularly effective in addressing financial busts. This is not just because its force is dampened by debt overhangs and a broken banking system—the usual ‘pushing-on-a-string’ argument. It may also be because loose monetary policy is a blunt tool to correct the resource misallocations that developed during the previous expansion, as it was a factor contributing to them in the first place.” Global debt had grown by $57 trillion since 2007.101 It stood at three times the level of global GDP.
On January 19, the IMF stated that emerging markets had downside risks that could be deepened by China’s slowdown, lower commodities and oil prices, and the Fed’s exit from its accommodative monetary policy.102 The sheer magnitude of this pronouncement and its questioning of the Fed was another indication of a shifting mentality among the rest of the G7 regarding the central bank policies of its core collusion organizer. It also implied that the central bank community still did not know what it was doing. The world’s most powerful financial institutions remained conflicted, which masked their fear of a return to the fall of 2008.
Still, the Fed’s monetary policy allies weren’t ready to throw in the towel. Overall, as the IMF wrote in its World Economic Outlook (WEO) update in January 2016, “Financial conditions within advanced economies remain very accommodative.” Despite a deluge of easy money from the main developed economies, and not enough to show for it, there was no real stopping it; all G7 central bank money-conjuring systems remained a “go.”
The IMF report warned, “Prospects of a gradual increase in policy interest rates in the United States as well as bouts of financial volatility amid concerns about emerging market growth prospects have contributed to tighter external financial conditions, declining capital flows, and further currency depreciations in many emerging market economies.”103
More turbulence in Europe was on the docket. The Italian banking index dropped 18 percent. Italy’s third-largest and most historically troubled bank, Banca Monte dei Paschi di Siena, lost 50 percent of its value over 2015 resulting from a familiar theme—a pile of bad loans.104 The Italian economy was mired in its deepest and longest recession. The slow economy meant businesses couldn’t repay their loans, which left banks short of cash to finance new business ventures, which held back the economy even more as banks heaped up bad loans. It was a similar vicious cycle throughout the Eurozone.
With no other card to play, on January 21, at ECB headquarters, Draghi and ECB vice president Vítor Constâncio announced the continuation of bond purchases.105 Only the reasons for continuing those purchased had altered—from being needed to help developed countries to being necessary to help developing ones. The decision to pursue more bond buying resulted from increased risks and uncertainty over emerging economies’ growth, volatility of financial and commodities markets, and geopolitical issues. One commonly shared idea was that emerging market countries were the places to fear, when in fact the EU nations themselves were the destabilizers. The first step to tackling a problem is acknowledging its existence. That wasn’t the case for many of these central bankers.
The projected end goals had changed, just as they had for the Fed. The ambiguous employment levels, low inflation readings, and various tailwinds had all dampened growth in the Eurozone. Draghi took the opportunity to imply that the March ECB meeting could bring more easing. Past the point of no return, he declared, “There are no limits to how far we’re willing to deploy our instruments.”106
A few days later, the Fed put on the hiking brakes. It would keep rates unchanged. It would make gradual adjustments in monetary policy, but divulged nothing specific.107 The Fed had forecast four hikes for 2016.108 Seeing the market chaos one hike had caused, it was suddenly not so sure about that projection. As it turned out, it would hike rates only once in 2016, rendering its own forecast somewhat meaningless.
Any diverge
nce among main central banks ceased a month into 2016. At first, signs of a monetary policy shift by the Fed appeared. But Japan and Europe continued to pursue easing (Europe was facing a 10 percent unemployment rate). The global economy remained weak, so wide-scale tightening never materialized. Both Draghi and Bank of Japan governor Kuroda declared easing would increase in their jurisdictions.
The Fed’s stall helped the markets that would have been most affected by a rate rise on their dollar-denominated debts. As a result, emerging markets did exhibit some signs of recuperation: emerging market stocks rose to a two-week high and some currencies gained against the dollar. Others, more entwined with the US economy directly, remained wary.109 The Russian ruble rose 2.3 percent to 76.3; but the Mexican peso fell 0.1 percent after the Mexican Central Bank announced it would not increase the size of its daily dollar auctions to sell dollars. The Brazilian real dropped 1.4 percent, the worst performer among emerging markets.
At their two-day conference in Shanghai that began on February 26, 2016, the G20 finally recognized the world should look beyond monetary policy—interest rates and printing money—to restore growth, noting, “The global recovery continues, but it remains uneven and falls short of our ambition for strong, sustainable and balanced growth.”110
Old habits die hard, so the organization tempered its stance: “Monetary policies will continue to support economic activity and ensure price stability… but monetary policy alone cannot lead to balanced growth.” The leaders expressed concerns over geopolitical issues such as the European refugee crisis and the possibility of Brexit, which were also causing significant tremors in the Eurozone and for the euro. China used the meeting to calm the international community about the strength of its own economy, despite recent weakness. It was an economy upon which so much of the world, including the United States, relied.
On March 6, the BIS warned of uncertainty over the potential for deeper cuts into negative territory.111 Undaunted, four days later, Draghi’s ECB announced the decision to cut rates. The rate on the deposit facility was lowered by 10 basis points to –0.40 percent.112 In addition, the ECB expanded its monthly asset purchases (QE) program from €60 billion to €80 billion and announced it would begin buying assets of nonfinancial companies with investment-grade ratings. There was more. Starting in June, the ECB would hold new targeted longer-term refinancing operations (TLTRO) to encourage regional banks to give loans to investors and consumers.113 That still wasn’t happening after all the years of cheap-money aid.
During the related news conference, Draghi blamed the ECB’s lower inflation forecast on temporarily lower oil prices and the BIS having expressed concerns that policy tools were becoming less effective and central banks were running out of tactics.
He spoke defiantly of his strategy’s ability to reach its goals: “The best answer to this is being given by our decisions today. It’s a fairly long list of measures, and each one of them is very significant and devised to have the maximum impact in boosting the economy, and the return to price stability. So we have shown that we are not short of ammunition.”114 He was daring every naysayer by tripling down. There was no central bank checks-and-balances system to stop him.
Regarding worries about general worldwide money expansion and whether there were fresh signs of “currency wars,” Draghi was more sanguine. He replied, “The ECB has never started anything like that. Even our measures today are entirely addressed to our economy, domestic economy.… Also, let’s not forget that in the G20 in Shanghai all countries took a solemn agreement that basically they would avoid such war.”115
Six days later, on March 19, Jens Weidmann, president of Germany’s Bundesbank, criticized the ECB’s latest package. He warned against “reckless” moves and unintended fallout. “I have always drawn attention to the fact that the longer the effect of an ‘ultra-relaxed’ monetary policy lasts the weaker (that effect) becomes.… Financial market bubbles can come about which, if they burst can complicate the work of central banks.”
He further suggested, “Rather than reckless experiments on monetary policy it would be more sensible to take a break.”116 Weidmann warned against “helicopter money” whereby the ECB would seek to inject money directly into households to boost spending to avert deflation.
Draghi didn’t listen. The next day, at a private meeting in Brussels, Draghi told EU leaders that the ECB had “no alternative” to its recent rate cuts and monetary policy decisions. To the press, Draghi said the ECB cannot do much about the euro area’s largest issues, but he reassured them of his commitment to use “all the appropriate instruments” to support European recovery. This time, he hedged the effectiveness of his own prowess and promises, noting, “even though monetary policy has been really the only policy driving the recovery in the last few years; it cannot address some basic structural weaknesses of the euro-zone economy.”117
Janet Yellen encountered opposition, too. According to CNBC, on March 23, four of the seventeen members of the FOMC disagreed with her dovish backtrack. St. Louis Fed president James Bullard, Chicago Fed president Charles Evans, Philadelphia Fed president Patrick Harker, and Kansas City Fed president Esther George said that at the Fed meeting in April they should consider raising interest rates.118
At the end of March 2016, during the G20 meeting held in Paris, called the Paris Forum, PBOC governor Zhou Xiaochuan put the idea of an alternative to conjured money in perspective. He reemphasized his opinion against relying too much on one international currency, the dollar. He called for reform that the IMF could conduct and promoted the use of special drawing rights.119 For China to call on a Western institution to step away from the dollar so publicly was a groundbreaking move, for the IMF was truly in the United States’ backyard—its headquarters only blocks away from the White House, Treasury Department, and Fed. The SDR was made up of UK, EU, US (three Western states), and Japanese currencies, so this was Zhou sending a shot across the bow in terms of confidence in the prevailing monetary system.
Because China held the rotating presidency of the G20 that year, it had requested the meeting and set the tone. The selection of Paris as a locale had historic significance: since Charles de Gaulle, France had criticized the role of the dollar and favored international monetary reform. Europe would be pivotal in prying the world away from the dominance of the US dollar—if and when the opportunity was to surface.
Emboldened, German political leaders increased criticism of the ECB’s monetary policy,120 criticism that took a far more political than monetary or economic stance. According to German finance minister Wolfgang Schäuble, Draghi’s policies were unintentionally supporting the rise of the extreme right wing in Germany and in other parts of Europe: the Alternative for Germany (AfD) party in recent regional elections had scooped up 25 percent of votes away from conservatives. Schäuble said, “I said to Mario Draghi… be very proud: you can attribute 50 per cent of the results of a party that seems to be new and successful in Germany to the design of this policy.”121
The main criticism German politicians levied at Draghi was that easing was not bringing growth, but it was harming German savers with low rates. Sigmar Gabriel, German vice chancellor and leader of the Social Democratic Party, part of Merkel’s coalition, shared Schäuble’s opinion. Meanwhile, Merkel was holding a cautious position. Having spoken out against the ECB in years past, she was letting her ministers do the talking.
Gabriel’s view was more moderate but still critical of Draghi’s programs. “What the European Central Bank is doing now is for many savers, for little people, for workers, for pensioners, an expropriation, but it is not the ECB’s fault,” he said. “The blame lies with Europe’s inability to put together a joint growth program.”122 The bigger issue of the shaky concept of a European Union and how it could manage national and supranational interests simultaneously manifested in Gabriel’s defense of a specific class of German citizens.
Across the Atlantic, less attention was paid to the nuances of European p
olicies. US election season was in full swing. On April 15, 2016, in a G20 meeting in Washington, financial leaders were feeling reassured—mostly from the markets, not the real economy, being resuscitated. They noted in their final communiqué statement, “The global recovery continues and the financial markets have recovered most of the ground lost earlier in the year since our February meeting in Shanghai. However, growth remains modest and uneven, and downside risks and uncertainties to the global outlook persist against the backdrop of continued financial volatility, challenges faced by commodity exporters and low inflation.”123 The markets had been elevated by the joint policy of Draghi and Kuroda that kept the average global cost of money at zero.
On some level, G20 leaders might have known about—but did not admit to—collusion. Instead, they chose to reemphasize their commitment to use monetary, fiscal, and structural measures to keep the economy moving toward growth and price stability. Schäuble reaffirmed his concern regarding the ECB going into negative territory and its effects on bank profits and German savers.
A week later, on April 21, the ECB made good on its March 10 announcement to expand the QE program from €60 billion to €80 billion. Draghi defended ECB independence against his German critics: “We have a mandate to pursue price stability for the whole of the Eurozone, not only for Germany. This mandate is established by the Treaty, by European law. We obey the law, not the politicians, because we are independent, as stated by the law. And by the way, all this applies to all countries, to all politicians in the Eurozone.”124
In an interview with the German newspaper Bild, Draghi aggressively touted the legitimacy of his mandate in the ongoing feud between him and Schäuble.125 He said German criticism was not a good way of strengthening the Eurozone and could damage the whole region. According to Draghi, “The ECB obeys the law, not the politicians.”126
