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Five against one — arguments for and against QE

With even French president Francois Hollande saying earlier this week that the European Central Bank will announce sovereign quantitative easing on Thursday, there can be little doubt that ECB boss Mario Draghi is fitting the latest rocket into his bazooka as we write. Hollande may have had to embarrassingly backtrack since — with his office saying he was only talking hypothetically — but one can be certain that the flip flop is more down to a breach of etiquette, rather than an error.

While Draghi might be miffed that Hollande spoiled his chance to reveal the worst kept secret ever, GlobalCapital has outlined five of the reasons why sovereign QE in the form it seems set to take is not the answer to the eurozone’s woes — and in the interests of fairness, we’ve provided one suggestion as to why it could be.

QE without mutualisation is a step in the wrong direction

The clearest lesson of the eurozone sovereign debt crisis is that the currency bloc cannot survive without closer fiscal integration. As much as the Bundesbank might hate it, that means the eventual launch of eurozone bonds. A sovereign QE programme could be a step towards that, but it seems clear that people in the Bundesbank and other naysayers do not want a mutualised bond buying process — they want Germany to buy German, Italy to buy Italian and so on.

That may be fine for those who feel a more closely integrated eurozone is anathema — but a closer union is the only way that the bloc can survive.

The markets are no longer the issue

The only real effect that sovereign QE will have is to push down countries’ borrowing costs further. But nearly every eurozone sovereign’s yields are at or just above record lows. If a country like Portugal, which only exited its bailout programme less than a year ago and did so without a precautionary credit line, can bring a dual tranche 10 year and 30 year bond that was its largest syndication ever — which it did last week — then it’s clear that the funding question of a few years ago is off the table for everyone but Greece.

What has lurched into view is the growing influence and standing in opinion polls of anti-European Union parties. Mainstream politicians and policymakers should be focusing their efforts not only on structural reform of their economies but in tackling this new threat. 

That should be done by pointing to the good that the EU has brought to the continent, the benefits of the common market and free immigration policies — not by being constantly at loggerheads over what they feel is wrong with the system and which countries are to blame for the crisis of the last few years.

Labelling countries periphery or core is unfair and lopsided. Far better terms would be profligates and enablers.

Money markets can’t take another knock

A QE programme is only going to kick the money markets — arguably the biggest casualty of the era of ultralow interest rates — even harder.

Money market funds have already had to change their models to cope with the atom-thick returns available from short term debt, while Deutsche Bank will close its European and US commercial paper trading business at the end of the first quarter, citing declining volumes and margins across the industry.

Issuers that use the short term markets will be nervous that other banks might follow suit. QE stamping down yields further will only make other bank bosses ask the question of whether their capital is best allocated to a market making minimal money.

How much lower can yields go?

Germany’s FMS Wertmanagement priced a €500m 2019 note this week at a yield of just 1bp. Buying sovereign bonds is going to push yields down further, and no doubt those of government related supranational and agency paper too. How happy will investors be about buying supranational and agency paper — less liquid that sovereign bonds — at negative yields? A round of QE could seriously damage the prospects of SSA issuers funding at the short to medium part of the curve.

And it’s not as if these issuers need the help — they are of top credit quality and are already funding at absolute lows.

Market dislocation

If there’s one thing that makes an SSA funding official wince it’s paying a larger than necessary new issue premium on a benchmark. But if the ECB storms into the secondary market with whopping great big piles of cash to burn, then that is going to depress secondary prices. 

The trouble is, as we’ve already seen when the ECB began to play in covered bonds, where the ECB is prepared to buy isn’t necessarily where issuers’ core investors are prepared to buy. The arrival of quantitative easing in this sector is going to make it much harder for issuers to work out where they should be bringing bonds. Those that fall into the temptation of printing at ECB friendly levels may find a bunch of peeved investors when the ECB withdraws and they have to rely on them to get their bonds sold again.

And the one reason it’s a good idea?

No one has a better plan.

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