Whoa. That’s quite a doozy. No wonder everyone’s talking about it.
An interview earlier this week given by a European Central Bank official in The Wall Street Journal indicated the ECB is ready to do everything it can to head off the threat of deflation. “If our mandate is at risk we are going to take all the measures that we think we should take to fulfill that mandate,” said ECB executive board member Peter Praet in the interview. “That’s a very clear signal.”
More importantly (and this is what has got everyone abuzz), he suggested that the ECB is open to using that controversial tool: asset purchases. “The balance-sheet capacity of the central bank can also be used,”he said. “This includes outright purchases that any central bank can do.”
The ECB has engaged in bond-buying programmes before, but has focused on bond purchases countries reeling under the debt crisis. The goal of those purchases was to ease bond yields in those countries and prevent the crisis from spilling over to the rest of the eurozone. The outright purchases that Praet talks about refer to a U.S. QE (quantitative easing)-style bond buying to boost liquidity through the entire eurozone to stimulate growth. That has not been done by the ECB before.
In addition, Praet, who heads the economics portfolio at the ECB, also indicated that other options are also on the table, including a negative deposit rate. The central bank’s deposit rate (the rate paid to commercial banks for deposits parked overnight in the Eurosystem) is already at zero percent. A negative interest rate would effectively charge commercial banks for keeping funds at the central bank. The idea of a negative deposit rate is to encourage banks to lower deposits and increase lending.
Praet’s remarks have sparked debate among analysts about what the ECB is prepared to do next, and bets are growing of a round of a “wall of money” gushing in to prop up Europe. Praet’s comments also suggest that he believes the ECB is no weakling and still boasts a considerable number of weapons in its arsenal to fight flagging growth and inflation.
Deflation is turning into a real threat for the eurozone, after the inflation rate came in at a low 0.7% for October. The central bank slashed its benchmark rate to a record low of 0.25% in response. Most experts believe the central bank will have to do much more if it wants to stimulate prices and economic activity in the eurozone, which only recently emerged from six straight quarters of falling output to report a 0.3% growth in the April-June quarter.