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Euroland: A few comments on a hawkish Weber

Thu, Oct 29 2009, 18:20 GMT
by Frank Øland Hansen

Danske Bank A/S

Earlier today ECB Governing Council member Weber gave a speech to a group of bankers in Berlin. He was more hawkish than usual both with regards to German fiscal policies and more importantly with respect to the ECB exit strategy.

On exit strategy

On the exit strategy Weber said that "Exit from unconventional measures should come gradually," and later added that "Unconventional measures will likely be rolled back next year," ... "(but) it would be counter-productive to set a concrete time frame,". That exit will begin in 2010 is hardly a surprise, but Weber seems to be indicating much more than a beginning and he is certainly becoming more outspoken.  
Weber said on the Long Term Refinancing Operations (LTRO) that "For example, the full allotment policy for main refinancing operations should, looking from today's perspective, surely be kept in place for longer than the very long-term liquidity injections." This is in line with our thinking that the 12-month LTRO in mid-December this year is probably the last 12-month auction, but we could still see 3-month auctions with full allotment on the schedule for 2010 (with the possibility of a spread). This is likely to be announced at the December meeting. At the meeting next week we do not expect any new announcements on exit strategy, but will look for a more positive tone from the ECB with regard to the economic outlook.  

Weber also said that ECB won’t wait for labour market to rebound to raise interest rates. We believe that the labour market could stabilize in early 2010 so it is likely that the ECB will not have to wait for the labour market. Nevertheless this is a very hawkish comment as a labour market rebound would normally be seen as a precondition for the ECB to begin hiking rates. The hawkishness was also confirmed by Weber saying that the ECB monetary policy must be ahead of curve, not behind. In a way this is obvious, but on the other hand this is certainly not a central bank governor occupied with signalling that interest rates will remain exceptionally low for an extended period.


Weber is known to be very hawkish and his statements are not Governing Council consensus, but nevertheless the speech clearly shows in what direction the ECB is moving. The schedule for auctions in 2010 is increasingly likely to reflect an attempt to begin draining liquidity in early 2010.


It is also important to keep in mind that we already know quite a bit about the exit strategy with regard to other measures. The ECB has already said that the temporary expansion of the list of eligible assets is to be prolonged until the end of 2010. We expect that the collateral pool will be narrowed thereafter, but this will probably not be communicated before we are well into 2010. 
The covered bond purchasing programme runs until end-June 2010. After that we expect the ECB to hold the EUR60bn portfolio until 2011 or later. The reduction of this portfolio could be one of the last steps in the exit strategy. We are drafting a paper on ECB exit strategy as a follow up on the paper “Arguments for ECB to hike in 2010”.

On fiscal policy

Weber requested the new government to explain quickly how it will finance the announced tax cuts and how it intends to meet the debt-brake rules, which says that the German deficit must be reduced to 0.35% of GDP in 2006. The German deficit is more likely to reach 6% of GDP next year, so there will be a long way to go. He also warned the government not to overestimate the self-financing effects of tax cuts. A tax cut of 1% of GDP is likely to raise GDP by about 0.5%, so part of the money will come back in the coffers. This is particularly so after a year or two when dynamic effects have kicked in.


But in the current situation there is a risk that tax payers will restrain their extra spending and some Ricardian equivalence effects should not be ruled out. 

Bankers on medication

The speech was certainly targeted for the audience (it was a bankers conference). Weber said that "Banks should gradually taper off from taking the medication prescribed by the central banks", "Continuing life dependent on central bank liquidity injections is not an option for an enduring future and surely not a viable business model." What a shame… :-)

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Published on  Thu, Oct 29 2009, 18:26 GMT