In July, 2012, Mario Draghi, the President of the European Central Bank (ECB), made his famous comment that he would do “whatever it takes to preserve the euro.” Since that speech at the Global Investment Conference in London, he had done very little. Until now. Last month, the ECB began a long awaited Quantitative Easing (QE) program. To what purpose and what effect?
Europe is embroiled in another Greek drama. Hopefully, it will not prove to be a tragedy. For now, it is too early for us to know how this play ends. Beyond the Greek story, Europe has been suffering from very weak economic growth and increasing fears of deflation. At the Jackson Hole Symposium in Wyoming last August, Mr. Draghi implied that QE would be possible in Europe, despite previous constraints, if the continent did not see some inflation. Since his August speech, the euro has weakened by more than 15% against the dollar. This move in the euro is the first significant effect of the program.
In the aftermath of the credit crisis, countries have tried to implement reforms, with varying degrees of success. Since the Eurozone is not one economy, each country has been challenged to right-size its public and private sector debts. A natural consequence of this forced deleveraging is that small and medium enterprises have had to suffer through a prolonged credit crunch. It is hoped that the QE program will inject liquidity into the system for the benefit of these enterprises. ECB bank lending surveys indicate that credit conditions have already been easing, perhaps in anticipation of the bond buying program. The most obvious beneficiary will be the banks themselves since they will have inexpensive sources of funding and will be able to lend “risk-free” to the public sector.
QE has been tried before. It has long been a policy in Japan and has recently been reintroduced with considerable vigor. In the US, there have been three distinct QE programs in addition to “Operation Twist” between QE2 and QE3. Now China is getting in on the act and Europe is now in the initial stages of its effort after having previously implemented smaller bond buying programs to help the peripheral countries make it through the credit crisis. However, it remains to be seen how these drastic measures help the real economy. Global growth is slowing. In the meantime, financial asset prices have benefitted everywhere QE has been implemented. European stocks have performed well since the beginning of the year despite concerns over growth and deflation. Ultimately, deeper and more meaningful structural reforms across the continent will be required to make economies more flexible and dynamic. The ECB is trying to reassure the financial markets and buy time for the difficult decisions that lie ahead.
John Hess 
Falgun Jariwala 
Managing Principal Managing Director
jhess@nsinvestors.com fjariwala@nsinvestors.com
www.nsinvestors.com www.nsinvestors.com
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1. Data available on U.S. Census Bureau website:https://www.census.gov/construction/nrs/new_vs_existing.html