Whatever happens, the real goal is to weaken the euro

Outlook:

The ECB news is coming out and will be capped by the press conference while this Briefing in being assembled, so we can’t address the news directly. We can note, however, that the ECB capitulation to the QE crisis mode, following Japan, the UK and the US, is not a Good Thing. It’s interference in the free market allocation of resources and that always results in misallocations of various sorts, some of which we don’t know yet. In Japan, it would not be wrong to say QE did not work. As Keynes put it, at some point you are pushing on string. When the problem is one of demand, increasing and cheapening supply doesn’t get the desired result.

• In many situations, QE ruins banks and causes mergers & acquisitions as the spread between taking deposits and making loans collapses to practically nothing—and inspires banks to take up speculative trading to make some money. Banks may also lower credit standards.

• Equity and commodity bubbles are possibly a necessary correlation to QE.

• QE forces yields to abnormally low and negative rates of return that do not reflect true sovereign or credit risk.

• QE leads to the erroneous assumption that central banks can manage a country’s affairs, even as central bank governors repeatedly say the real agent of necessary change is fiscal.

• QE leads (or can lead) to currency depreciation and thus “currency wars.” Case in point: Canada just cut. Is Australia far behind?

In a nutshell, QE is a crazy idea. That’s why the endless commentary of whether the ECB ties QE to the unemployment rates, as the BoE and Fed did (in QE3), is all but meaningless. The ECB doesn’t target employment. It targets inflation. Another issue that some find of interest is whether QE can be used in Greece and Cyprus, not investment-grade paper. It seems obvious that the answer is no if the ECB is backstopping and yes if the implantation methodology is for national central banks to buy their own sovereign paper. Those banks just have to segregate their line of credit from the ECB so as not to be buying any below-investment grade paper with it (that will be fun to audit). As for whether the vote is unanimous, as Draghi once asserted, who cares? Once the deal is done, objections by the outvoted don’t really matter unless there is some other action the objectors might take, like leaving the eurozone, which is not happening.

And finally, is the amount €500 billion, or €600 billion—or will the program go into 2016 and amount to €1.1 trillion? The ECB will leave the door open on that, having already said it wants to expand the ECB balance sheet from €2 trillion to €3 trillion. At some point, this becomes quite tedious.

What is more interesting is the marginal lending rate at 0.5%. The ECB has said it cannot go any lower, but nobody believes it. Of course it can go lower, especially if QE fails to deliver much in the first 6-9 months and if members fall back into the slough of despond and fail to institute reform. Mr. Renzi may be champing at the bit but he’s not the only decision-maker in Italy.

We worried last week about the euro reaching 1.1750-1.1800 on a corrective bounce, and that looks increasingly likely. After all, the ECB knows all of these objections to the shortcomings and problems of QE. Mr. Draghi knows the chief impact of QE is psychological. He also knows it’s doubtful whether QE inspires consumers to save less and spend more, or companies to make capital investments. Draghi has a PhD in economics from MIT, for heaven’s sake. He must have something else up his sleeve—doesn’t he?

Whatever happens later this morning, keep in mind that the real goal is to weaken the euro. Depreciation is the only sure-fire method of boosting activity in the absence of reform. Yesterday we worried about intervention if the euro fell too far, too fast and looked disorderly. Now we may worry about intervention if the euro goes too high. Not really—the ECB is hardly in the mood to intervene, although the SNB might get an itchy trigger finger. Still, today is not a good day to be taking bets on the euro.