Wednesday, April 30, 2014

The ECB’s Conundrum (excerpt)

ECB President Mario Draghi’s pledge to do whatever it takes to defend the euro has worked like a charm to calm the Eurozone’s financial markets. Indeed, since he said so back in July 2012, the area’s bond yields have plunged and stock prices have soared, especially among the peripheral countries. However, now ECB officials are concerned that the euro is too strong and contributing to deflationary pressures. So they seem to be doing their best to talk the euro down by hinting that they are considering various measures to ease credit conditions further.

The problem is that while ECB officials are trying to find the accelerator, they are still pumping the brakes. They are doing so by requiring Eurozone banks to pass stress tests. So the banks are shoring up their capital and improving the quality of their loan portfolios. It’s not obvious that imposing negative interest rates on their reserve deposits at the ECB or implementing QE would cause the banks to lend more.

ECB officials seem to understand that, which is why Draghi has been dragging his feet about actually doing whatever it takes. Draghi seems to be especially loath to drug up the Eurozone with liquidity by implementing QE. He must be unimpressed by the effectiveness of the QE programs in both the US and Japan. While he is struggling to determine what to do next, the Eurozone’s latest money and credit data show ongoing weakness:

(1) Money growth slowing. The Eurozone’s monetary aggregates are growing at a slower pace. Indeed, M2 was up only 2.2% y/y during March, the lowest growth since December 2011. A year ago, the comparable growth rate was 4.2%. This deceleration coincides with a decline in the Eurozone's core CPI inflation rate from 1.5% to 0.7% over the same period.

(2) Bank loans falling. There was more bad news in March’s lending by Eurozone MFIs. The three-month change in loans outstanding was negative for the 20th consecutive month. The good news is that the decline was only €37.6 billion, the least negative reading since July 2012, when the yearly rate was slightly positive.

Today's Morning Briefing: On Drugs. (1) Overweighting Health Care. Market-weighting Consumer Discretionary. (2) Some consumer stocks are too expensive now. (3) Auto- and housing-related stocks reflect weakening recoveries. (4) Health Care stocks aren’t cheap either, but sector's M&A is bullish, and so are earnings. (5) The rush to invert. (6) Global tour of Pharma industry. (7) Best to invest in industries with barriers to entry. (8) Why is Draghi dragging his feet? (9) ECB isn’t rushing to drug up Eurozone with QE. (More for subscribers.)

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