You can take a horse to water but�.

September 17, 2019

Last Thursday, Mario Draghi, the current head of the European Central bank, soon to
be replaced by Christine Lagarde from the IMF, announced a parting gift to banks
and financial markets. The ECB decided to reintroduce its bond purchasing
programme in order to inject yet more billions into Europe�s banks in order to
persuade them to lend onto industry and boost lagging growth.

This was the return of quantitative easing (QE) by the ECB. But this time there
was to be no time limit on the E20bn monthly of ECB purchases. It was to be forever
� QE to infinity! Also, the ECB would purchase not just the government bonds of
debt-ridden Italy, Spain etc but also much riskier assets like corporate bonds.

Draghi also announced a new two-tier interest rate system for bank cash reserves
held at the central bank. These reserves have spiralled as banks took cash from
ECB purchases of government bonds they held, but instead of lending that cash on in
loans to the wider economy, the banks just put them back in the central bank as
deposits.

The ECB decided the the interest rate was to be held at zero for excess reserves,
thus making sure that banks could not lose money if they were forced to offer
negative rates to their borrowers. Banks can now also raise funds at negative rates
and deposit these funds at the central bank up to six times the required reserve
amount and get a zero rate, thus boosting profitability.

This two-tiered idea is seen by some mainstream monetary economists as

revolutionary. In effect, the ECB is boosting bank profits with its own capital at
risk. Bank profits rise while the ECB buys government bonds at prices which offer
negative rates and banks with large excess reserves� can lend at a profit to those
with low reserves. But this �revolutionary� policy is just about the last
desperate measure of unconventional monetary policy.

The monetarists are hopeful that boosting bank profitability will lead to an
expansion of lending to business and households and get the Eurozone out of its
renewing depression. This assumes that the problem is the banks not being prepared
to lend because it is not profitable for them. But is that the reason for low loan
growth rates and investment? It�s not the supply of money or bank profitability
that is the problem, but the demand for loans. Nobody wants to borrow to invest or
spend even at zero or negative rates, because revenues and profits are stagnant,
inflation and wage growth are low and, above all, export trade has collapsed.

You can take a horse to water (and you can make it a huge lake of water) but you
cannot make it drink if it is not thirsty. Even the central bankers, like Draghi,
are admitting now that monetary policy has failed. And even supporters of the
revolutionary new policy are not confident: �Dual rates is monetary rocket-fuel. In
contrast to standard negative rates, to forward guidance, or QE, the marginal
effects of these policies are increasingly powerful. I am not convinced that this
specific combination of measures will suffice to generate enough demand to create
an acceleration in Eurozone activity � but it will help.� Eric Lonergan.

The great new instrument to save capitalism from stagnation or a new slump is
fiscal policy. �There are more and more people saying that monetary policy cannot
be the only game in town, and if you don�t want more and more monetary policy the
only instrument that is left is fiscal policy.� Ex-ECB board member.
Draghi called for action by European governments, particularly those with �fiscal
space�, eg Germany to run budget deficits and spend. So far, Germany has been
reluctant to do so. But if it decides to up the ante fiscally, then we can test
the Keynesian solution to capitalist recessions. I�ll make a prediction: that
won�t work either.