A Quantitative Easing Option for Europe?

by: Larry MacDonald

The Eurozone faces a key test this month. Member governments are expected to seek as much as €80 billion from debt markets, and any signs of unwillingness to take up their bonds could lead to new debt crises. Portugal, Spain and Italy are seen at risk; if they end up needing bailouts, they would strain the Eurozone’s €750 billion stabilization fund and raise questions about the survival of Europe’s monetary union.

This week is when government bond auctions for the month are set to ramp up. Already there are signs Portugal’s refinancing on Wednesday could go off the rails: 10-year government bond yields in the country have increased in recent days to a new high of 7.14%, just above the threshold Lisbon officials have said marks entry into the unsustainable zone.

The EU and the Option of Quantitative Easing

So, are we close to seeing the break-up of the EU? Perhaps, but there is one escape route: Quantitative easing, which I have previously described as a substitute for a fiscal union. Peter Gibson, a quantitative analyst and strategist at CIBC World Markets, puts it even more emphatically by saying the “European Central Bank should centralize its debt market and bail out governments and banks with a multi-trillion-dollar plan.” Moreover, he adds, the ECB should cease sterilizing against the misplaced fear of inflation.

My feeling now is that if the ECB has to choose between the dissolution of the EU and quantitative easing, it will opt for the latter. There is just too much at stake to allow dissolution. And inflation is still a very distant prospect while there is so much economic slack. As such, any sharp sell-offs in European equity and debt markets prior to the ECB capitulating could be excellent buying opportunities.