ECB Greeted by Collective Whine of Liquidity Junkies


Bizarre Monetary Experiment Expanded

As is well known by now, the ECB Council has decided to expand its bizarre monetary experiment further. All users of the euro are to be subjected to additional impoverishment, by means of the ECB lengthening the duration of its outright money printing scheme (while keeping its level steady at what is an already stunning €60 billion per month) and the even more absurd decision to lower its deposit facility interest rate further, to minus 30 basis points.


larry-summers-i-only-like-mario-draghi-right-nowECB chief Mario Draghi, who increasingly looks like something that has risen from the Crypt. US high IQ moron export Larry Summers likes his policies. Any more questions?

Photo credit: Michael Probst / AP



In much of the German-speaking press, the ECB’s deposit facility rate is rightly referred to as a “Strafzins”, which translates as “penalty interest rate”. As we have discussed in these pages at length in the past (see “The Consequences of Negative Interest Rates” as an example), if you still needed proof that our John Law-type monetary overlords are nothing short of insane, the imposition of negative interest rates is surely providing it in spades.

To briefly recapitulate: the passage of time is actually meaningful for human beings. We all differentiate between “sooner” and “later”. The natural interest rate can never become zero or negative, as this would indicate that the categories “sooner” and “later” have lost their meaning. As Mises pointed out, such an interest rate would imply a complete cessation of consumption – all our efforts would be directed toward providing for the future. We’d all starve to death.

As he remarked, a zero or negative interest rate would never emerge in an unhampered free market economy. It can only emerge because it is imposed by force by a monetary authority. This has consequences – the chief consequence is that it promotes the consumption of capital. After all, why would anyone save if they have to pay borrowers instead of getting paid by them? The imposition of negative interest rates is utter economic nonsense.


1-ECB ratesThe ECB’s main refinancing rate remains stuck at 0.05% (the functional equivalent of zilch), while the deposit facility rate has been lowered further into negative territory, to minus 0.30% – click to enlarge.


The negative rate imposed by the ECB affects only bank reserves and euro area banks have as of yet not dared to pass it on to their customers. Allegedly it is going to encourage banks to expand their inflationary lending. Even if that were the case – and so far it seems a dubious proposition, as it primarily means that banks are faced with additional costs – it makes no sense to encourage banks to create new loans and deposits if there is little credit demand and potential borrowers willing to take out loans are not considered creditworthy.

In the end, the banking system will simply be saddled with even more non-performing loans. In fact, this is already a certain long term outcome of the monetary pumping and suppression of interest rates implemented by the ECB, as the policy promotes capital malinvestment by distorting relative prices across the economy. The price for a short-lived weak recovery in aggregate economic data will eventually be an even greater economic bust. What happens then?

The ECB keeps arguing that there is “too little inflation”, because a harmonized index of consumer prices in the euro area – in other words, an index that purports to measure what is inherently immeasurable – is allegedly “too low”. Leaving aside that the so-called “general price level” is a mythical construct that does not actually exist, this “price stability” fetish is extremely dangerous. Its pursuit by the Federal Reserve in the 1920s was the root cause of the 1920s boom and the subsequent Great Depression.

In a free market economy, prices will generally tend to decline over time, reflecting the steady increase in productivity. They can only be kept level or be forced to rise if the money supply is continually inflated. And that is what inflation actually is – the expansion of the money supply. In periods during which prices tend to come under greater pressure due to either especially strong productivity growth or other exogenous reasons, the money supply expansion required to keep them “stable” will have to be especially large.


2-Euro Area M1According to Mr. Draghi, a monetary inflation rate of 14.1% per year is “not enough”, because an arbitrary price index of consumer goods has as of yet not responded as desired (desired by the central planners, that is. Consumers have no interest in rising prices whatsoever) – click to enlarge.


As a rule this is accompanied by commensurately large asset price bubbles and extensive capital misallocation, laying the foundation for enormous busts. As a rule of thumb, a bust will tend to be a mirror image of the preceding boom. If it is to be kept at bay again and again, it will require the central bank to eventually sacrifice the currency it issues. Even then, the bust can only be postponed and not prevented – at the cost of even more catastrophic upheaval.

In other words, for society at large monetary pumping simply makes no sense (there are of course a few people who benefit from monetary inflation because they receive newly created money earlier than others. This is however to the detriment of the vast bulk of the population, and even the “inflation winners” in the end often find out that their gains were illusory). The policy is certain to lead to impoverishment relative to what would have happened in its absence.


How Could you Dragon!

In spite of enlarging the ECB’s monetary pumping scheme, the liquidity junkies infesting the markets were “disappointed” by Mr. Draghi’s announcement. He didn’t do enough! This is almost too absurd for words, but it is clear that the markets were already set up for disappointment ahead of the announcement.

Ever since it was made clear on occasion of the previous ECB meeting that further inflationary measures would be announced in December, the markets have done their best to discount the event in advance. An adverse reaction (“sell the news”) on the actual announcement was probably baked into the cake.

The first hint that something untoward was about to happen was received on Wednesday already, when the market refused to fully buy into what Ms. Yellen had to sell. She once again reiterated in a speech how utterly awesome the US economy’s performance allegedly is at the current juncture.

Zerohedge incidentally published a chart on the same day that shows how enormous the gap between economic reality and the perception of economists currently is. It shows the cumulative US “macro surprise” index over several years. Negative index values indicate that the actual data released were weaker than economists had expected – the bigger the gap between expectation and reality, the bigger the effect on the index.


3-Macro surpriseAverage US “macro surprise index” over the years. The gap between economic reality and the perception of economists has never been larger than in 2015.


Ms. Yellen is heading an organization that keeps issuing wildly erroneous economic forecasts with unwavering regularity as well, so it should be no surprise that her perception of the economy’s performance is at odds with the actual situation. It should be noted that in spite of the by now quite obvious deterioration in the manufacturing sector, the economy at large is not yet in recession. However, based on recent trends in economic data the danger that the downturn will worsen and spread to other sectors seems to be increasing almost by the day. What it definitely is not is a vigorous expansion.


Here is how the US dollar index reacted to Ms. Yellen’s speech on Wednesday (the chart excludes Thursday’s action, which we will look at separately):


4-USDOn Wednesday the market failed to buy what Ms. Yellen was selling – click to enlarge.


Funny enough, economic surprises have gone the other way in the euro area – reflecting the temporary illusion of growing prosperity engendered by massive monetary inflation. It is little more than capital consumption masquerading as growth, but one would normally assume that it satisfies the planners. And yet, it is Mr. Draghi who keeps easing monetary policy, while Ms. Yellen seems bent on tightening US monetary policy further (if only to “save face”). Not only is central economic planning a literal impossibility anyway, these people appear to be the very worst timers on the planet to boot. It’s as if they were living in a cave somewhere.

As we mentioned above, the markets were even less willing to buy what Mr. Draghi had to sell, at least this time around. Draghi is on record for his desire to impoverish holders of the euro by impairing the currency’s internal and external value. Things didn’t quite work out as planned on Thursday:


5-DXY, 30 minuteThe dollar index reacts to the ECB announcement. The euro has approximately a 58% weight in DXY – click to enlarge.


Here is a daily chart of EURUSD – the move shows that the entire market was apparently sitting on the same side of the boat, and the boat promptly capsized, at least for one day (Friday’s US payrolls report could well reverse this move again, so one shouldn’t necessarily put too much stock in it).


6-Euro, dailyThe euro flips Draghi the bird, at least for one day – click to enlarge.


Similarly strong reactions were recorded in other markets – all of them quite negative, at least from the perspective of the central planners and the speculators who have come to depend on them:


7-two year ITAAs a proxy for European government debt securities, here is the reaction of Italy’s 2 year note – for a single day this was actually a large move in yields, even though the practical difference between a 3 basis points negative and a 10.5 basis points positive yield seems almost academic – click to enlarge.


Stock markets were unhappy as well, with the Euro-Stoxx 50 Index declining by a hefty 3.61%, putting in another lower high in the process. Germany’s DAX index, Europe’s leading stock market, lost more than 400 points on the day, declining by 3.58% (its chart looks very similar):


8-EuroStoxx 50Stock market across Europe declined sharply in the wake of the ECB decision. Evidently, market participants expected even more free money – click to enlarge.


Well, you get the drift – markets obviously didn’t like the decision. You may be wondering if there is actually a point to all of this. Well, there is. Mario Draghi is considered a master of “effective forward guidance” (modern-day Orwellian speak for “manipulating market prices by merely piping up in public”) and is known for “over-delivering” on his money printing promises. As the WSJ reports:


“The euro surged to a one-month high and stock markets in Europe and the U.S. tumbled after the European Central Bank served up a package of stimulus measures that fell well short of many investors’ expectations.

The euro rose more than four cents against the dollar to a of high $1.0959, after the central bank cut interest rates and extended its bond-buying program by six months. The currency had traded at a seven-month low of $1.0525 ahead of the announcements.

For investors, the ECB’s moves were a major disappointment from a central bank whose offerings have typically exceeded market expectations. Investors’ judgment was harsh, moving the euro, stocks and bond yields in the opposite direction to where the ECB wants them to go as it looks to stimulate inflation and lending.

“The ECB had earned itself a reputation of late as an institution that understood markets and how to beat expectations,” said Paul Lambert, head of currency at London-based asset managers Insight Investment. “That reputation [will have] been badly damaged today.”


(emphasis added)

As our regular readers know, we are patiently waiting for the day when the undeserved so-called “credibility” of our vaunted central planners finally falters. This is an inevitability, and in a way, it is almost the only thing that actually matters. The thin thread on which the world’s remaining asset bubbles are hanging is the entirely erroneous belief that central bankers have things “under control” and will be able to keep asset prices levitating forever. An associated error is that their interventions actually “help” the economy. The opposite is true – they are undermining it ever more on a structural level.

Investors have already spent quite some time in strenuous denial, ignoring the weakness in economic fundamentals, the breakdown in commodity and junk bond prices and the increasingly dubious looking internals of the stock market. Many people are telling themselves that because the stock market has held up in the face of all these negative developments, it is fine to ignore them. This is however a grave misconception. It ignores that stocks haven’t been much of a leading indicator for a quite some time – in other words, the stock market “knows” very little, if anything. It is only slightly less reactive than the planners themselves.



We don’t want to make too much of the action of a single trading day – after all, it may not stick. Still, the reaction to the ECB decision was markedly different to what has happened on previous occasions. Up until now, ECB meetings regularly seemed to be followed by the euro getting kicked in the groin, interest rates on European government bonds on the short end of the curve falling deeper into negative territory, and stocks partying in anticipation of more inflation, at least in the short term.

We should interpose here that European stock markets have actually been in a downtrend ever since QE actually started (after rallying strongly in the three months preceding the implementation of QE on the “announcement effect”). This may be a first sign that at least some market participants are beginning to realize how futile this policy is. We also believe it is a sign that investors are beginning to fret over the tightening of monetary policy in the US. Dollar liquidity is more important to global markets than euro liquidity, and US and euro area money supply growth rates are by now diverging quite sharply.

Once again we could see that nothing matters more to financial markets than the actions of institutions that are actually alien to the market economy. They influence it, but they are not creatures of the market. The activities of central planners have seemingly become the sole focus of market participants. This strikes us as an extremely unhealthy state of affairs. It is also a state of affairs that is certain to end with a bang. The economy’s pool of real funding is not infinite, and there is a limit to how much abuse it can take.

One of these days, faith in the planners is bound to crumble for good. It should be clear that one has to prepare for this event before it happens. The market reaction to the ECB announcement on Thursday should be taken as yet another warning shot in this context. No-one will be able to say later on that we haven’t been warned, or that “no-one could have seen it coming”.

We will leave you with a quote by Ludwig von Mises that sheds light on the fundamental error that underlies today’s irrational faith in market intervention by the State:


“An essential point in the social philosophy of interventionism is the existence of an inexhaustible fund which can be squeezed forever. The whole doctrine of interventionism collapses when this fountain is drained off. The Santa Claus principle liquidates itself.”


Charts by: BarCharts, StockCharts, BigCharts, Zerohedge, WSJ, ECB