As discussed yesterday the European Central Bank (ECB) decided to wait until 2015 do decide whether or not to begin a round of quantitative easing.
The response in foreign exchange markets was for the value of the Euro to rise against the United States dollar.
After closing at a near-term low of $1.2374 on November 8, right after the November meeting of the bank's governing council, the value of the Euro backed up a little as debate took place about the future possibility of the ECB moving to do some quantitative easing.
On November 19, the value of the euro closed at $1.2554 and then began to decline again as the December meeting of the governing council approached. On December 3, the day before the December meeting, the value of the euro closed at $1.2311. Some analysts thought that Mr. Draghi seemed to be giving signals that quantitative easing might be forthcoming.
Well, the quantitative easing was not forthcoming, the announcement was that the issue of quantitative easing would be examined in the first quarter of 2015…and the value of the Euro rose again, closing at $1.2383 to end the day.
Mr. Draghi, however, did not want to leave it at that. The headlines in the newspapers this morning reflect what, I think that Mr. Draghi wanted the markets to hear.
In the New York Times we read: "E. C. B.'s Draghi Hints at More Stimulus in Future for Europe."
In the Wall Street Journal, the subheading in the paper edition read: "ECB's Draghi Opens Door to Bolder Stimulus...."
And, in the Financial Times: "Draghi Looks to QE Despite Governing Council Split." Claire Jones, the writer starts out, "Mario Draghi, European Central Bank president, has maintained he can deliver fresh measures to stave off economic stagnation in the eurozone next year…"
Ms. Jones continues, "The council was in agreement, however, that if lower oil prices began to threaten the outlook for inflation, or its existing measures disappointed, then more radical easing was warranted. A downbeat assessment in the first quarter 'would imply altering early next year the size, pace and composition of our measures,' policy makers said in their monthly statement."
At 9:00 AM today, EST, the value of the euro was down to around $1.2300.
Mr. Draghi knows that he can't look like he is doing nothing. Yet, as I have written all along, I don't think that Mr. Draghi is a "real believer" when it comes to quantitative easing. He just has not really seen it do much to stimulate economic growth or to stimulate faster rising prices in the current environment…and now he sees the problem that the Federal Reserve is facing having all those excess reserves out in the banking system that need to be removed.
The quantitative easing he has seen in the United States…and in Japan…has just not added more demand for goods and services. The funds have all seemed to stay in the financial circuit of the economy.
As I have written before, I really believe that Mr. Draghi's plan is to get the value of the Euro down to $1.20 or below. He believes that this will stimulate exports from the eurozone and this will provide the needed demand for goods and services. Then, further demand will be generated as the "real" incomes spread and domestic demand is stimulated.
The other leg of this effort is structural reform of eurozone economies. In recent months, Mr. Draghi has talked more and more about the need for countries within the eurozone the restructure labor markets, to restructure governmental policies, and to reduce extortion and fraud in economic dealings. Almost everyone agrees that Europe will not really become sufficiently competitive in global markets without a substantial restructuring of how it does business.
I believe the Mr. Draghi feels that he is within striking distance of his goal. In early May 2014, May 6 to be exact, the value of the euro closed at $1.3928. One has to go back to late October 2009 to find the value of the euro this high.
Thus, the value of the euro has declined 11.6 percent from May 6 to December 3. This is a pretty substantial decline!
But, Mr. Draghi has not quite reached his goal yet. The value of the euro is still above $1.20.
My guess is that Mr. Draghi wants the value of the euro to drop below $1.20 and since he is so close, he does not want to see the ECB start up a round of quantitative easing if this target can be achieved. Quantitative easing is not a gentle policy. It's basic premise is that if the central bank throws enough "stuff" against the wall something might stick. I have written about this over and over again during the past five years…through three rounds of quantitative easing.
And, as with the situation the Federal Reserve is having to deal with right now, with all the "stuff" that didn't stick on the wall lying around, the clean up clean up can be very messy!
Therefore, Mr. Draghi is trying to postpone getting involved with all that "stuff". He is doing his best to "talk" down the Euro. The problem, of course, that can arise out of this situation is that Mr. Draghi could lose his credibility. If the euro does not continue to decline…and, if the economy of the eurozone does not begin to rise…then he will have no choice but to move on to the ECB's first round of quantitative easing…and, his stature in the world as a central bank leader will be diminished.
I still believe that the value of the euro will drop below $1.20. I hope that the ECB does not have to go to a policy of quantitative easing. And, I hope that economic and governmental reform will spread throughout the eurozone.
I believe that the first two of these will take place. The third…will probably not take place in my lifetime…if at all. If the first two of these take place then the currency union will stay alive for a few more years. If the third is not achieved, the currency/monetary union will fold at some time in the future. The continued existence of the currency/monetary union without a political union cannot depend upon a perpetual decline in the value of the currency.
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