I watched the ECB announcement press conference last night. You can find it below:
I recommend you watch it in full. The Q&A session at the end contains the most important parts. After watching it, I am still in shock.
The initial announcements in the form of ECB action were a lowering of the official rate to 1% and also a number of actions to provide banking liquidity:
- Will conduct two LTROs, with 36 month maturity with option of early repayment. First will be allotted on December 21, 2011, and will replace October 6, 2011 LTRO.
- ECB will ease collateral criteria for loans to banks. Will reduce rating threshold on ABS collateral
- National Central banks can accept credit claims such as bank loans
- Will reduce the reserve ratio from 2% to 1%, which will free up collateral in money markets
These were welcome changes, although mostly expected, and markets rose on the news.
After the scripted announcements it then came time for the Q&A session and this is where it all went wrong. Yesterday, in conclusion to my Europe post, I stated :
As with October’s forum I am starting to sense that the Eurocrats have misunderstood the markets take on the goal of the summit. The letter is completely focussed on implementing policy to move towards a tighter fiscal union but provides no credible framework in which to make that transition. Markets have so far been supportive of the fiscal unification plan but only because they believe it will lead to a relaxing of the reigns on the ECB and it will therefore be allowed “print”. I don’t get the sense that this is the rationale for the Eurocrats, it certainly isn’t present in that letter. It is this divergence of goals that has the potential to lead to a very disappointed market as it did after the last summit.
And this is exactly what we saw in the conference. Mario Draghi was asked specifically at least 10 times whether the ECB would support Quantative Easing, ECB and/or nation bank funding of the IMF or any other non-standard mechanism to provide some form of additional ECB balance sheet support to the markets. His answer was the same every time. He said repeatedly that the ECB is bound by existing European treaties and that in the spirit of those treaties the ECB could not support such actions. I think the media scrum was utterly shocked by what he was saying because they kept rephrasing the same question and asking it again and again. The answer every time was NO, and Mr Draghi appeared surprised by the media’s interpretation of the current situation.
Those statements may have been the thing that triggered the falls in the markets, but they were by no means the most scary thing he said. He was also asked specific questions about how the ECB and national leaders were actually going to address the current crisis. His answers were, in my opinion, utterly delusional.
This is my overview from the notes I took while watching the session about what he said:
- That the new fiscal “compact” would bring “confidence” to the market and that would help lower bound yields
- Deposits at the ECB were “Lehman like” and extra liquidity was not circulating, banks were de-leveraging because of pressure from regulation and the market. Lengthening of term lending should provide confidence
- Banks should re-capitalise but without effecting lending
- In the 1st qtr of 2012 there are 230 billion euro of bank bonds to roll over so the ECB was lengthening term of ECB funding for provide liquidity
- That austerity was occurring because there was no other choice. This will bring short term “pain” but is needed. Structural reforms are essential for competitiveness and jobs growth and enhanced competitiveness will kick start exports
- The short term pain caused by fiscal consolidation ( austerity ) needs to offset. This will be provide by the “confidence effect” of the new fiscal compact
- It is imprudent to have a plan for the breakup of the Euro as it won’t happen
So, basically, Mr Draghi’s answer to nearly every single question was my worst fear. His answers were completely disconnected from the economic reality of the situation in Europe. It seems he has completely misinterpreted what the markets are interested in and, far more worryingly, believes that a new treaty centred around supra-european austerity will bring confidence in such quantities as to offset the current crisis. He seems to have completely misunderstood the continuing effects of austerity on the periphery claiming that these are “short term” and once “competitiveness is restored” these countries will grow via exports.
I am not sure I have ever witnessed a more disturbingly dangerous display of delusional economic ideology in my life.
It would appear at this stage that there is no credible transition plan for Europe. Unless I see one announced by European nation leaders in the next 24-28 hours then my base case for Europe is something far worse than the current situation.
As I said recently:
Forced austerity across the entire European continent will lead to a global depression. If this does turn out to be the plan, then “go long ammo”.
I struggling at this point to see any other plan.