THE ITALIAN election has once again thrust the economic resilience of the eurozone back into the limelight. While Italy - the euro bloc’s third largest economy - struggles under a €2 trillion mountain of debt, focus is turning on how the so-called “Monetary Methadone” of Quantitative Easing (QE) can be withdrawn.
Quantitative Easing has always been cited as a treatment for economic symptoms and not a cure
In the Eurozone, part of the problem is that despite low inflation they are running out of bonds to buy in countries like Germany
Mike Ingram, chief market strategist at WHIreland
European Central Bank-backed QE began in 2015 at a time when inflation was falling month after month and the eurozone was in danger of entering another recession.
Stanislas Jourdan, head of Positive Money Europe told Express.co.uk that since 2015 the ECB has created more than 2.5 trillion euros through QE - the purchase of government and corporate bonds, in a bid to stimulate the economy and bring inflation back up to target.
Quantitative Easing has always been cited as a treatment for economic symptoms and not a cure, and Mr Jourdan said the ECB’s particular form of QE “has its shortcomings, and the results have been questionable”.
He adds that, although the eurozone economy is recovering, “it remains vulnerable, while inflation has still failed to reach the ECB's two percent objective”.
On the drug of debt and the search for a cure, Mike Ingram, chief market strategist at WHIreland told Express.co.uk that at first QE was a relatively simple and politically expedient way of supporting demand in the early years of the financial crisis to prevent real economies from entering a death spiral of falling demand, employment and investment.
However, he warns now the debt-fuelled consumption is the drug and proving a habit hard to kick, and QE is the habit’s “Monetary Methadone” which central banks have dosed economies with since the Financial Crisis.
Mr Ingram told Express.co.uk that QE is “dying a very slow death”.
He said: “The US was first in and is leading the way out, they stopped expanding QE in October 2014 and started to shrink the programme in October last year.
“The Bank of England is a relative big player and is firmly on hold - absent a ‘Brexit’ shock.”
However, he warns: “In the Eurozone, part of the problem is that despite low inflation they are running out of bonds to buy in countries like Germany.”
And linked to the need for such a “stimulus”, there are new fears that a balance sheet reduction by the Central Banks has now become the single largest risk to financial stability at present.
In the greatest possible macroeconomic example of just how hard it is to put the toothpaste back in the tube, the balance sheet of the consolidated European central banks has ballooned from approximately €1.5 trillion pre crisis to approximately €4.5trillion today, primarily through purchases of $2.66tn of bonds issued by European governments, agencies and corporates.
Although this quantitative easing programme is an initiative of the European Central Bank, according to analysts, these bonds are in fact held directly by the ten national central banks of the Eurozone. The primary purpose of the bond purchases is to prevent a deflationary cycle, and to nudge Eurozone inflation up towards the ECB’s 2 percent target.
Mark Northway of Sparrows Capital warns the global financial system is in virgin territory.
He told Express.co.uk: “As global growth and inflation start to raise their head, the central banks are starting to want to wean the world off Quantitative Easing and to start to normalise their balance sheets.
“It is unlikely that this can be done through actual sales of inventory, but we should certainly expect the central bank support bid to be gradually removed from new government bond auctions.
“The intention will be to allow bond markets to reprice gradually with a view to achieving a more normal inflation and interest rate regime, but this is a very precarious balancing act.
“We can expect the odd plate to come crashing to the floor during the process.”
David Zahn, head of European fixed income, Franklin Templeton is more optimistic, saying: “We don’t believe the EU is hooked on Quantitative Easing but it will continue to need very accommodative monetary policy given inflation in Europe is still well below the European Central Bank (ECB) target rate of two percent.”
However, the expert admits QE is not going to end anytime soon within the eurozone.
He said: “The current QE programme is due to expire in September of this year, and we think it’s unlikely the ECB would end it abruptly then. So we think an extension, possibly featuring further tapering, is likely.”
With the US scaling back its QE program, questions remain as to why the eurozone is continuing with seemingly no end in sight.
Mr Ingram says that the eurozone is playing "catch up" with economies that were earlier to enact QE programmes and running looser monetary policy.
He adds that the eurozone was guilty of an "extend and pretend" policy to repair its banking system.
He said: “Bring it forward to today and it’s only within the last couple of years that you’ve seen broad-based growth in the region but fault lines remain.
“For instance many of Italy’s banking system remains problematic and its economy is still five percent smaller than it was at its pre-crisis peak.
“Once the ECB have stopped doling out the goodies, politicians will have to step up to the plate and that is likely to be a recipe for a return to stagnation for many.”