Billions printed in Frankfurt will wash across the Channel
01-26-2015
The ECB's QE programme is expected to spark a surge in London's house prices and the FTSE, but negative interest rates could also be introduced
A machine counts and sorts out euro notes at the Belgian Central Bank in Brussels December 8, 2011
Mario Draghi would like his trillion euros to go to Italian factories, Greek tourist resorts and German consumers, but none of us lives in an ideal world Photo: Reuters
By Matthew Lynn
Five hundred billion? A trillion? Perhaps two trillion. No one quite knows the scale of quantitative easing that the European Central Bank President Mario Draghi will unleash following this week’s council meeting. Nor do they quite know what kind of assets he will buy with all the money. There are a couple of things we do know, however. One is that it will be big, and the other is that it will have an impact outside the eurozone.
When the Bank of Japan and then the Federal Reserve started their QE programmes, the effects of that rippled out around the world. As the eurozone is our closest neighbour and our largest trading partner, then Draghi’s “big bazooka”, as the markets have started calling it, is going to shape our economy for the next year. What will it impact? London property will get another boost, City traders will be swilling champagne in anticipation of some easy money, but manufacturing will take a hit, and we may start having to worry about interest rates turning negative, as they have in Switzerland.
We know for certain that the printing presses will finally start rolling in Frankfurt, metaphorically at least, this week. The French president François Holland let the cat out of the bag on Monday, in a speech to business leaders. It is just the amount that has still to be revealed.
Economists will no doubt be debating the effectiveness of QE for a couple of generations at least. Yet one thing we know for sure is that when a major central bank prints money, it floods the rest of the world. When Japan started, it fuelled asset booms in the US and Europe. When the Fed and the Bank of England launched QE, much of the money poured into the emerging markets. In a world where capital is mobile, and there are no controls on its movement, that is what you would expect. It seeks out the best yield it can find, or the safest home, and that is not necessarily where the money was created.
The same will be true for the ECB. Draghi would like his trillion euros to go to Italian factories to re-equip themselves, to Greek tourist resorts to smarten themselves up, and to German consumers to spend more on that Italian-made stuff and those Greek holidays. But none of us lives in an ideal world. The banks won’t want to lend to Italian or Greek companies just because they have a lot more money on their balance sheet. So if a trillion euros get printed in Frankfurt, a lot of it will wash its way across the English Channel.
What impact will that have? Here are five big changes we can expect.
Soaring London property
A lot of newly-minted ECB money will find its way into safe-haven assets – and London property is a safe haven, especially for Europeans nervous about the financial stability of their countries. We saw that with Greek and Italian money flooding into London at the height of the last crisis, and since most of the money created by QE seems to end up in the hands of the rich, it will happen again. The threat of the mansion tax has taken the London market off the boil. Eurozone QE will set it alight again, and estate agents in the smarter parts of Kensington and Chelsea will be celebrating.
A boost for the City
Insofar as QE works at all, it is by feeding money into the banking system. From there, you hope it ripples out into the real economy, mainly through more lending and lower interest rates. So it is certainly good for the financial system. The money might be printed in Frankfurt, or through the different eurozone central banks, but it will be traded in London, because that happens to be where every major bank in Europe has its main hub. The City will benefit mightily, even if the real economies don’t. Expect some much bigger bonuses next Christmas – and even more demand for those smart central London properties.
Booming equity markets
Just as we know that QE helps the banks, we also know that it helps the stock market. Money is cheaper and more plentiful and that is good for equities. But it won’t just be the German DAX, the French CAC or the Italian MIB that get a boost. The FTSE is the biggest market in Europe measured by total value. Expect much of the money to enter our stock market, which is good news for anyone with a British pension fund or ISA.
Depressed manufacturing
We also know for certain that QE has a big impact on the exchange rate. The euro has already started to fall against other currencies, including the pound. That was one reason why the Swiss abandoned their peg to the euro last week – they knew it was no longer possible to defend it. Many analysts think that the euro may fall to parity with the dollar. In that case, we can expect to see it a lot lower against sterling as well. That is great for anyone taking a holiday in Europe this summer. It will probably tip the UK into deflation as the cost of our imports falls. But it is bad news for British exporters. High-end services will not be hit so much, because they are less price sensitive and less dependent on European markets. However, manufacturers will be hit hard. Even if there is some modest improvement in demand in Europe, they will still lose out on price.
Negative interest rates
The Swiss just imposed negative interest rates. Why? To try to stop inflows of money, and to prevent the currency from soaring against the euro. What makes us think the UK will be any different? Our currency is going to be surging in value against the euro as well. Money is going to be flooding into Britain. All the City economists are still earnestly debating the timing of the first interest rate rise from the Bank of England, and trying to decide whether it will come in the autumn of this year, or early 2016. But with an overvalued exchange rate, and with yield-hungry eurozone investors flooding the UK with cash, that will be very difficult. True, it is going to be a long time before Barclays is charging you a couple of quid a week for keeping your account in credit. But in six months’ time, we may well be discussing whether the UK needs negative interest rates for institutions as well, and that will drive borrowing costs for everyone down.
Draghi will be aiming his big bazooka at Italy, Greece and Spain. He will be hoping to lift those economies out of deflation and depression. It may have some limited impact, but probably far less than he hopes. Paradoxically, it may well have a bigger impact on this county – and in ways that very few people yet expect.