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European QE: the last bullet in the monetary gun

Mike Keogh

2014 was meant to be relatively quiet from a geo-political standpoint, providing economies the necessary support to deliver on a return to growth. Michael Keogh(Associate Director of Research & Strategy) discusses this, and more in his analysis below.

Alas, the deterioration in the relationship between the West and Russia, eroding past improvements in financial confidence, has displaced the region’s recovery. Growth has struggled due to weaker investment and net trade. The potential signing of a Ukrainian/Russian truce will go some way to improve market sentiment, although meagre inflation is a concern. In response, the ECB have once again cut interest rates to a new record low (0.05% from 0.15%), pledging to buy billions of loans (asset-backed securities), and increase the fee it charges banks to park their deposits at the central bank. Once again, the rationale behind this action is that the weaker euro should stimulate exports, expand financial markets, investment and spending could be brought forward, and governments can use the cheaper finance operations to step up much needed structural reforms. The latter of these consequences is most important, as it is evident that without reform, monetary stimulus can provide only limited progress.

So will we see full blown QE in Europe? Well, aside from the fact that some prominent policy makers remain firmly opposed to such a programme, the ECB are likely to wait to see the resultant impact this action, alongside targeted long-term lending to banks and some resolution in Ukraine, will have in reviving the region’s economy. Plus, whilst it is true that present economic indicators make for pretty grim reading, they too probably place an overly pessimistic picture on the (recovering) health of the Eurozone. There is a risk that businesses and consumers will delay non-essential investment and spending, but barring a further escalation of geo-political tensions, economic conditions should recover in Q4 2014. August’s Consensus Forecasts still project the region’s economy to expand 1% in 2014, edging higher to 1.5% and 1.7% in 2015 and 2016, respectively.

All of this implies that bond yields look set to stay at record low levels for an extended period, exaggerating the attractiveness of real estate yields. But with governments in need to improve competitiveness and de-leverage, projections of rental growth will be few and far between. For the time being, the ECB seem comfortable to leave QE back for a true emergency. Or as can be better translated, provide the markets with some comfort of a fall-back option.

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Michael Keogh

Mike Keogh

Director of Research

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