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ECB Money Props Up Eurozone’s Growth But May Be Glossing Over Woes
Posted on August 29th, 2017 by Jonathan López in Chemicals Industry News and Analysis
With the European Central Bank (ECB) potentially ending its €60bn/month quantitative easing (QE) programme in March 2018, several voices are starting to wonder how the euro zone economy will fare if cash injections pouring into the bond markets were to be tapered.
The ECB has not only propped up the economy with cash since January 2015 in order to encourage credit to households and businesses and increase inflation – partly successful in the former, less so in the latter – but has also kept interest rates at record lows.
Low-interest rates are not only a problem for savers, who get poor returns on their savings but for banks themselves. A combination of low rates and QE has pushed financial institutions to purchase safe ECB-backed public bonds, which is thought to have had a distorting effect.
The UK’s Financial Times published an investigation on Wednesday showing the balance sheet at developed countries’ central banks has risen to $15,000bn in the last 10 years, with $9,000bn of that total made up of government bonds.
According to the financial daily, the ECB’s balance sheet recently topped that of the Fed in dollar terms at $4,900bn, including nearly $2,000bn in euro zone’s government bonds.
Last week, the CEO of Austrian polymers and fertilizers major Borealis, Mark Garrett, said in an interview with ICIS the monetary stimulus from the ECB, as well as low-interest rates, were acting as a “turbo charger” to the economy.
“We shouldn’t forget that throughout the EU you have very low, zero or negative interest rates still today, which is an exceptional form of stimulation, and we still have the ECB’s QE running, so we don’t really know at the end of the day how well the economy is doing,” said Garrett.
“I think that the [financial] problems are only been glossed over by the fact that the economy is doing better.”
The euro zone has certainly surprised analysts on the upside this year and updated forecasts for better GDP growth have been published by governments and the International Monetary Fund (IMF) alike.
According to the EU’s statistical office Eurostat, the 19-country euro zone’s GDP rose in the second quarter by 0.6%, quarter on quarter, improving the already positive 0.5% growth posted in the January-March period.
Most economists expect the euro zone’s economy to grow over 2% in 2017, a figure not reached since before the 2008 financial crash.
The EU’s chemical industry is also feeling upbeat about its prospects.
Record low-interest rates have also propped up corporate activity, as cheap and abundant money has spurred mergers and acquisitions (M&A), the chemical industry in Europe is a prime example.
Capital spending remains subdued, however, a sign of unresolved economic weaknesses. By holding on to their cash reserves, corporates do not invest enough in capital projects, which slows down overall productivity which, in turn, slows down wage growth.
Oliver Schwarz, a chemical equity analyst at Germany’s consultancy Warburg Research, agrees that the ECB stimulus is causing “exaggerated growth rates” in several euro zone countries, adding that an annual growth of 2% is a decent figure “but it’s not that exciting” anyway.
“Let’s imagine interest rates stood at 4%, which is the average for the last 20 years – things would look quite different in that scenario. With rates at those levels, all this new [public] debt mounting up would have to be paid at real interest rates, and that would turn out to be very stressful for the levels of indebtedness in many euro zone countries,” said Schwarz.
“Potential increases in rates could not be, on the other hand, sudden. They will need to be gradual because if you pull up rates too fast some southern European states, most probably Italy, Greece, Spain or even France, could go bankrupt if rates were brought up too quickly to the 3% or 4% level,” he added.
The upbeat economic outlook for the eurozone would be overplayed keeping in mind the challenges lying ahead, according to the global head of chemicals at consultancy KPMG, Paul Harnick.
Moreover, this analyst also spoke of geopolitical risks from Asia to the Middle East which are not showing signs of easing, adding the business environment will remain subdued for at least three years more.
Tapering stimulus and increasing interest rates are one of the clear “risks” to the economy in the euro zone as well as the US or Japan, said Harnick.
“The fact that central banks have so far been so slow in doing that shows they are worried about the underlying strength of the economy.”
Moreover, Harnick also spoke of geopolitical risks unfolding – from China’s territorial ambitions to North Korea’s nuclear ones, from rising turmoil in the Middle East to clashes between the West and Russia.
“I think there are still significant risks and challenges to business success over the next three to five years. The investment climate is being dampened by those risks, which certainly is on the companies’ agendas,” Harnick concluded.
Read more news and analysis stories from ICIS, go to www.icis.com/about/news/
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Senior Reporter – Europe, ICIS
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