Sat, Dec 24, 2011 page10

• ECB urged to mull quantitative easing

  LAST WORDS: ECB board member Lorenzo Bini Smaghi, who retires next week, said he does not understand the ‘quasi-religious discussions about quantitative easing’

  • Bloomberg
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  European Central Bank (ECB) executive board member Lorenzo Bini Smaghi said that policymakers shouldn’t shirk from using quantitative easing if deflation becomes a danger to the euro region.

  “I do not understand the quasi-religious discussions about quantitative easing,” Bini Smaghi, who will leave his post at the end of the month, said in an interview published on Thursday by the Financial Times.

  The ECB confirmed the comments.

  “It is appropriate if economic conditions justify it, in particular in countries facing a liquidity trap that may lead to deflation,” Bini Smaghi said.

  Unlike the US Federal Reserve and the Bank of England, the ECB has offset liquidity created by purchases of government bonds so that such operations don’t amount to quantitative easing that stokes inflation.

  ECB executive board member Juergen Stark told Germany’s Die Welt newspaper in an interview published yesterday that the central bank doesn’t “have a mandate” for unlimited purchases of government bonds.

  Growth prospects in Europe “have deteriorated” since September, Bank of England Governor Mervyn King said on Thursday after a risk assessment by European officials. Stark, who resigned in September to protest bond purchases, said while the euro-region economy could shrink at the end of this year, deflation threats are “significantly lower” than after the collapse of Lehman Brothers Holdings Inc in 2008.

  The euro traded at US$1.3080 at 8:59am in Frankfurt, up 0.2 percent on the day. The single currency has depreciated 3.1 percent against the dollar over the past three months as European leaders struggled to contain the region’s debt crisis.

  “Central banks are given a clear mandate, to achieve price stability, and the independence to achieve it through the instruments they consider most appropriate,” Bini Smaghi said.

  “If conditions changed and the need to further increase liquidity emerged, I would see no reason why such an instrument, tailor made for the specific characteristics of the euro area, should not be used,” he said.

  The ECB this month cut its benchmark interest rate to 1 percent. It has opposed demands to step up government bond purchases to cap borrowing costs in Europe’s peripheral nations.

  Quantitative easing “is implemented in the UK and US, where the central banks consider that there are risks of deflation and where the policy rate is constrained by the zero lower bound,” Bini Smaghi said. “This is currently not the case in the euro area because the ECB currently sees no risk of deflation.”

  Instead of more bond purchases, the ECB has so far opted to grease the banking system with unlimited liquidity of up to three years, hoping financial institutions will lend the money on to companies and households. The institution loaned banks a record 489 billion euros (US$636 billion) for three years on Wednesday to avert a credit crunch from the sovereign debt crisis.

  “The interest in the long-term refinancing operation may be a sign of confidence gradually returning,” Bini Smaghi said. “If this is right, interest rate spreads would be pushed down and create profitable opportunities. It would generate a herd movement in a positive direction.”

  Bini Smaghi will take up a position at Harvard University’s Center for International Affairs on Jan. 1.

  Bini Smaghi dismissed calls for the ECB to act as a lender of last resort to distressed governments.

  “Central banks act as lender of last resort to the financial system,” he said. “The concept of lender of last resort to governments is misplaced.”

  Risks of a euro area breakup are “low” if “policymakers and citizens in the euro area are rational,” Bini Smaghi said.

  He said he’s “not sure” if issuing common euro bonds would be the most effective approach to solve the crisis.

  “I could nevertheless envisage a limited amount of joint and several issuance to finance, for instance, specific projects, pan-European infrastructure or a common bank restructuring fund,” he said.

  Asked whether the EU should continue integration without Britain, Bini Smaghi said that “continental Europe needs the UK, where the largest financial center is located and where there is the greatest financial market expertise.”

  “The UK financial system needs access to the continent where most of its clients are,” he said. “There can be no prosperity for either based on beggar-thy-neighbor policies.”

  He added that it’s in the interest of the City of London “that the euro succeeds.”
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