Tim Gosling in Prague -
The European Central Bank's plan to launch a quantatitive easing programme is the worst kept secret of the year. Assuming it is announced as expected on January 22, the money printing effort should offer Central Europe's economies a long-term boost. However, the region can only hope it's a one-way ticket.
The ECB is widely expected to announce that it will pump €500bn or more into buying sovereign bonds across the single currency region, as it looks to shore up the sluggish economic recovery and stave off the spectre of deflation. The economies of Central Europe (CE) are hugely reliant on Eurozone demand for their exports, and so any push for its economy should offer a bonus spillover.
"That will be the biggest impact," says Anders Svendsen, chief analyst at Nordea. 'If it can get the Eurozone moving back towards growth, then it will be very positive for CE." It should also raise confidence in CE, which is likely to push domestic demand as households and businesses increase spending.
At Capital Economics, William Jackson adds that bank lending could also get a boost from the ECB programme. "Rising liquidity in the Eurozone may cause Western European banks to slow the pace at which they reduce exposure to subsidiaries in CEE," he writes.
However, all of that depends on the ECB satisfying market expectations, analysts now say. "It needs to be credible and workable," Svendsen insists. "The ECB should indicate it's still in 'whatever it takes mode'," and make it clear more could be on the way, for its full effects to be felt."
Devil in the details
Yet while the bankers in Frankfurt are clearly happy to have leaked that the plan is coming, they've yet to nail down the details. The risk of disappointment is palpable, as Wolfango Piccoli at Teneo Intelligence notes.
"Given persistent opposition in Northwest Europe, especially in Germany, the scope of the programme will likely be limited," he says. "This might count for its overall size as well as for the potential design."
Should the ECB disappoint, however, it should be no disaster, say most. Analysts at SEB show little alarm, while admitting"currencies and sovereign bond markets will hurt". Svendsen suggests that while CE assets have been rising on the back of the expectations for QE, the impact on prices would not be disastrous.
Yet nobody is quite sure of the extent to which the ECB plan has lifted assets. On the one side, the end of the US Federal Reserve's bond buying programme has put global credit markets on the defensive.
At Deutsche Bank, Jim Reid suggests that the prospect of Eurozone QE has dampened volatility on European credit markets, but notes that the oil price shock and risk that Greece could leave the Eurozone mean its hard to see what's ultimately driving the market.
"Whilst it seems that European credit is pricing in some ECB QE expansion, it remains hard to say exactly how much, and so the initial reaction to any QE announcement is hard to call," he wrote on January 21.
Cheap money train
What is clear is that those CEE economies inside the Eurozone - Slovakia and Slovenia in particular – have already seen the favourable impact of QE expectation in the decline of sovereign bond yields to new record lows, points out Vladimir Vano at Sberbank Europe. Slovakia saw that effect in action on January 13 as it sold €1.5bn in 12-year debt. Demand hit an all-time high of €5.8bn despite a record-low yield of just 1.442%.
Others in the region should also benefit, as investors hunt for higher earning, but still relatively safe, assets. QE should then offer most Central European sovereigns lowered yields and cheap liquidity, albeit, Vano says just how much money is ready to chase higher returns outside the Eurozone is yet to be seen.
Meanwhile, the anticipation of QE has also helped stabilise regional currencies, which have sagged recently under the weight of slowing growth, the strengthening US dollar, and the spillover of the Russian ruble's plummet. Both the Czech koruna and Hungarian forint saw swift recovery from sharp falls in mid-January, which were kicked off by the Swiss National Bank's removal of its ceiling on the franc's value to the euro.
That support on foreign exchange will offer monetary policymakers more space in their fight against stuttering economic growth and deflation. The Polish and Hungarian central banks have been rejecting calls to return to easing for some months, partly due to currency concerns.
Space, or pressure?
At the same time, there is a risk that "space" turns into "pressure", and QE may force regulators to walk a fine line. On the one hand, they will remain keen to keep their currencies on an even keel and financial systems stable; on the other, the pressure for policy cuts will be accentuated.
Borrowing costs that exceed the ECB's create the risk of capital inflows and asset bubbles in bond markets, Governor Marek Belka of the National Bank of Poland warned in mid-January. The ECB's benchmark currently stands at 0.05%; matching its Czech peer but 200-205bp below Hungary and Poland. Belka has been calling for more cuts for months, but other Polish rate setters have held back, wary of growing financial instability.
Those worries only stiffened on January 15 as the Swiss shocked the markets. With Polish borrowers holding huge volumes of CHF debt, the zloty sank to new lows. It seems unlikely that the SNB made the move without talking to the ECB.
In other words, the current frenzy in Poland to alleviate the pressure on borrowers and banks, and therefore limit the fallout for the wider economy, looks a pre-emptive negative reaction from the ECB scheme. Meanwhile, the NBP is eyeing potentially chronic deflation.
By January 21, the conflicting pressures already had Belka changing his tune. In an interview with local media, he said the NBP should now hold off on further cuts due to the turmoil on the currency markets.
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