- Lagarde hopes to use her “agile” Europhile skills, developed as former IMF MD, rather than the traditional single mandated ECB president’s MO.
- Lagarde’s “agile” is being read as stealth MMT.
- Mario Draghi should use the rest of his tenure to build consensus for Lagarde to deliver “agile”, but he may not do so.
- Lagarde needs to eat humble pie to avoid having to eat cold revenge.
- A lengthier process of “agile” consensus building will put the ECB further behind the curve but guarantees the ultimate outcome.
Christine Lagarde has just eaten her first cold dish of ECB revenge. She thinks that, by being “agile”, she can avoid having to eat more of it. Unfortunately, the avengers think that she wants them to eat MMT; so they are cooking and freezing even more revenge for her. Mario Draghi therefore needs to change the menu and ask the avengers what they would like to cook. Since he thinks that he is a Master Chef however, he may not allow too many cooks to stir the pot. Failure to do so will be disastrous for the ECB, Lagarde and MMT.
The last report noted the difficulty for Mario Draghi, in forming a consensus to support further monetary policy easing at the September 12th meeting. This consensus-forming process is an urbane European pastime, that has been dubbed “Robustifying” by ECB vice president Luis de Guindos. It was also noted that Christine Lagarde doesn’t do “robustify”. It now transpires that she plays “agility” instead. The latter is a parlor game that she has learned to play at the IMF; and then has watered down the rules of for the players in her more developed Eurozone homeland.
The latest thorn in Mario Draghi’s consensus-building side was inflicted by Francois Villeroy de Galhau. Villeroy’s rejection of more easing follows the logic of the ECB Hawks. First, he would like to see the ECB deliver on its TLTRO, promise before considering further massive Q-easing. He therefore sees the next Governing Council meeting as a forum, for the discussion of future potential easing measures, rather than the beginning of a new phase of QE expansion.
Governing Council member Madis Muller is a thorn of President Truman’s two-handed variety, but an irritant for Draghi nonetheless. Whilst seeing room for another cut in interest rates on the one hand, Muller does not see the need for more QE on the other.
The different varieties of thorns in Draghi’s side, clearly demonstrate that there is no consensus for him to deliver on the massive QE; which he has previously threatened and that President-Elect Lagarde has openly embraced ex ante. Unfortunately, Mr Market has already bought into and price-discounted his promise and her embrace however.
Draghi therefore faces the embarrassment of having to entertain debate, at the next Governing Council meeting; that will call on all his powers of persuasion and rhetoric, rather than a simple rubber stamping of his promises. The Hawks have thus successfully seized the initiative, to frame perceptions of the September Governing Council meeting as a talking shop rather than as an effective platform for action.
Draghi’s consensus-forming difficulty was given an extra dimension, by the rise of populist opposition to unconventional monetary policy, especially in Germany. It should be noted that this element of populism is now actively pervading the Governing Council itself, which threatens the alleged independence of the ECB.
(Source: Amazon, caption by the Author)
Robert Holzmann, the new Austrian central bank president, is an enthusiastic supporter of the country’s Far-Right Freedom Party. Attention has been focused on the arrival of Christine Lagarde and what this portends. In all this hysteria and hype, surrounding her appointment, the arrival of a Fifth Columnist from the Austerian Far-Right has widely gone unnoticed. This oversight is a significant strategic blind-spot.
The diversity on the ECB Governing Council has been a force for objectivity in the past. This objectivity has been seen to be captured and biased towards those who favor easy money and loose fiscal policy. Lagarde is seen as the doyenne of this movement. Her appointment has now created a backlash from the populists who oppose her agenda. It is not just that Lagarde will find it hard to create a consensus. She will actually face resistance that may become an open rebellion. The rebellion has already started in fact.
The ECB thus risks becoming the next political battlefield, in a partisan struggle for control of monetary policy. It is interesting to note that the Fed has fallen victim to a similar struggle. For the two arguably most important central banks to become embroiled in this struggle is global a cause for alarm. Gold-Bugs should rejoice.
If the hard-money crowd win, Gold rather than the US Dollar will assume a greater reserve status. If the easy-money crowd win, Gold still wins as fiat Euros get printed with gay abandon. Mr Market is seldom faced with such an asymmetrical no-brainer. Even the squabble between the easy and hard-money crowd supports the yellow metal. All this occurs against a backdrop, of deteriorating global trade relations and the race to devalue currencies, just to provide further fundamental support to bid up the Gold price.
The hard-money crowd may be surprised to find that the Bundesbank is stepping backwards as they step forward. The last report noted that the German central bank was experimenting with monetary policy heresy. On that occasion this came through its opining that it had no problem with negative mortgage interest rates. The heresy has taken a much larger quantum leap recently.
The Buba now openly advertises the fact that it has no problem with the banks charging depositors negative interest rates. Bank margins in Germany can thus get squeezed from both the asset and liability side of the balance sheet. Negative mortgage interest rates hit the asset book. Negative deposit rates hit the funding book, as depositors flee deposits. The banks thus become more heavily dependent on commercial financing in the capital markets. Fractional reserve banking, effectively creating negative fiat currency, is a totally different ballgame than creating positive fiat currency. It is much harder to do and also much riskier. Plus, it has never been commercially done with success before; so that the risk factor is much higher. The problem is that this higher risk cannot be mitigated by charging higher risk premiums to borrowers. The commercial banks thus need the Buba to support them, with tiered interest rates and other such mitigating factors.
The banks will thus become captives of the Bundesbank’s and hence the ECB’s control of interest rates. Evidently, the Buba sees no need for commercial banks in their current form and is thus happy to force them to adopt a new business model or go to the wall. This implies that in principle, if and when the time comes for more NIRP in the Eurozone, the Buba will cite these two established communicated precedents on assets and funding to vote for it.
The last report noted that Christine Lagarde had inadvertently tipped her cards, during her exhaustive screening-interview process for the ECB presidency, with the European Parliament’s Committee on Monetary Affairs. The cards showed that she has the intention and capability, to do more NIRP and more QE, despite the risks to the banking sector and financial stability in general. This was viewed as one further motivation for the ECB Hawks to mobilize and scupper Draghi’s plans for the September meeting.
Draghi’s current bridge partner “Rehnfeld” has also tipped his hand to reveal a full house of aces. Each of his cards represents NIRP, Forward Guidance, QQE and TLTRO respectively. He wishes to play all of them. As he candidly put it “these measures work as a package, with significant complementarities across the different instruments”.
Having seen the Hawks’ and Rehnfeld’s cards, Lagarde then attempted to trump them, thereby winning the hand, when she spoke as ECB President Elect to the European Parliament’s elected delegates. Toning down her enthusiasm, she disarmingly opined that the ECB under her guidance will need to act with “agility”.
Loosely translated, this means that she will not conform to ECB guidance or Mr Market’s reading of it. She will call the shots. She has thus attempted to create some room to shoot from the hip, rather than to get bogged down in debate with the Hawks and Mr Market. She hopes to put both parties on the spot, whenever she sees the need to be “agile”. Unfortunately, the hand that she played was weak. She has thus put herself and “agility” on the spot instead of making a clean sweep.
The timing and definition of “agile” is entirely Lagarde’s call. She is thus adopting IMF managing director tactics and strategy, rather than ECB president ones, which is something that her colleagues have no experience in. Lagarde has thus attempted to defeat her opponents, by getting them to act on the “agile” battleground of her choosing and timing. She may not defeat a trade war, but she thinks that she has given herself a much better chance of doing so. By going for “agile”, she has also lowered the odds on more QE and NIRP that the Hawks had raised. Little surprise therefore, that she received push-back from some members of the European Parliament; thereby undermining “agile” and lengthening the odds on QE and NIRP again.
(Source and caption by the Author)
Clearly referring to Germany, Lagarde also called for nations with fiscal room to use it for a stimulus. She also stated that the majority of Eurozone nations have such fiscal room. Lagarde made this same mistake, whilst at the IMF, in relation to Greece. The Greeks had no fiscal room, but she gave them all the room in the world. Evidently, she intends to give other Eurozone nations the fiscal benefit of the doubt. Clearly, when she looks at the Eurozone, she does so through her native rose-tinted European glasses.
(Source and caption by the Author)
Lagarde will therefore advise and opine that the Eurozone nations can bend and even break Stability Pact rules. This will then translate into similar opining for fiscal burden sharing, when the weaker nations become insolvent as Greece is did. Clearly, once debt sharing is achieved, the ECB will have greater scope for more QE buying since its own Capital Key bond buying limits will have been fudged.
(Source and caption by the Author)
ECB Chief Economist Philip Lane’s Safe Bonds project will thus be critical to Lagarde’s success. She would not dream of doing any of this, if she was facing down some dodgy Emerging Market borrowers at the IMF, but in the case of her Eurozone the same fiscal rules do not apply. She learned that “Deficits Don’t Matter”, for one’s own Developed Nations’ agenda, whilst working for the originator of this catchy phrase. What goes around, now comes back around.
(Source: Reuters, caption by the Author)
It was suggested in a previous report that Lagarde will be promoting Capital Key limit changes for QE buying and Safe Bonds. This promotion seems to have already started by President-Elect Lagarde. Rather disingenuously, she advised the European Parliament to legislate pooled sovereign bonds into existence; ostensibly to attract more global investors and to strengthen the Euro’s role as a world reserve currency.
What Lagarde failed to say, is that this step is a neat way around the ECB’s Capital Key restrictions on sovereign bond buying; in addition to a lead into a de facto Eurozone bailout of an insolvent member of the securitised collateral pool.
(Source: ECB, caption by the Author)
Liverpool Fan and Chief Economist, not necessarily in this order, Philip Lane is the key technical man tasked with nudging Safe Bonds into existence. Whilst Lagarde was playing parlor games, with the European Parliament, Lane was in London nudging away for Safe Bonds at the LSE.
(Source: ECB, caption by the Author)
At this event, Lanes slide-deck conveniently revealed that rather un-coincidentally he has got “Rehnfeld’s” four aces up stuffed up his sleeve. Lane used his forum to frame the flattening of the Phillips Curve as a symbol, of what he terms as “mediocre” inflation, rather than of deflation. It is surprising therefore that he intends to play all of “Rehnfeld’s” cards for something that is “mediocre”. “Rehnfeld’s” cards seem to be more suited for the big game of deflation, rather than the trivial pursuit of ‘’mediocre” inflation.
Whilst Lane was nudging away in London, his minions were publishing copious amounts of research to support Lagarde’s “agile” agenda.
(Source: ECB, caption by the Author)
Staffers Frank Betz and Roberto A. De Santis published the thesis in support of corporate bond Qualitative Easing.
(Source: ECB, caption by the Author)
The prize for mendacity and timing must however be awarded to Spyros Alogoskoufis and Sam Langfield. These two gentlemen eloquently made the case for Safe Bonds, without actually saying the words Safe Bonds. Entitling their piece “Regulating the Doom Loop”, shows that they both have an inspired cynical sense of humor. Safe Bonds will allegedly remove the sovereign debt risk that is concentrated in the banking sector according to them.
Readers should note that ECB Working Papers are a euphemism for advanced forward guidance these days!
The sum total of Lagarde’s and Footie-Team ECB’s attempts to win friends, influence policy makers and frame expectations for a concerted delivery of further monetary policy easing was a strategic failure. Suspicions that all their initiatives simply add up to MMT were raised.
Eleven European Parliament monetary policy affairs committee members voted against Lagarde on this occasion. This makes her the worst incoming ECB president on record. The vote is largely symbolic, since her final appointment is ratified by European heads of state. What it confirms is that she has no unanimous mandate to deliver what she has promised. In short, Lagarde has no credibility in Europe. Her credibility, whilst at the IMF, is thus also in question.
In consequence therefore, Mario Draghi should now respond by pausing, the massive expected easing next step, in order to build the consensus that Lagarde needs. He could do this by simply delivering on the next TLTRO; and acknowledging the need whilst working hard to persuade the Hawks to join his consensus.
Lagarde also needs to eat a huge slice of humble pie, accept her initial failings and work on building her credibility. Once credibility is restored, she can then proceed to build consensus for her easing program. Achieving all this, by her arrival in October, will be a big task; but it will pay dividends in the long run.
(Source: Bloomberg, caption by the Author)
Clearly, there are at least eleven Eurozone nations who have protested about having Lagarde and her ideas forced onto them. Some of them suspect that Lagarde intends to make the Eurozone an in vivo experiment in MMT. MMT is the antithesis of the ECB’s prime directive not to monetize fiscal deficits. It goes to the heart of the European fear of a return to the historical conditions which then led to so much trauma and conflict of the past. Lagarde can’t just show up and make them change their ways overnight.
Lagarde plus another crisis may be enough to make them gamble though.
Lagarde’s failure to address this serious concern, about her ultimate intentions and capabilities, only serves to convince her detractors that MMT is what she intends to deliver. This is not something that can be done, without a political decision by the heads of state involved. The rejection is made by a significant minority, who should be reached out to. Since the Eurozone economy will deteriorate, during this outreach period, Lagarde will have a much easier time in building her credibility and support for her agenda. Unfortunately, this puts the ECB behind the curve. It will no longer be “agile”. She will need a new buzzword.
Draghi is a maverick. There is a risk that he just ignores the vote of censure on Lagarde, which directly casts its halo upon him, by simply plowing on with his threatened course of monetary policy easing. Doing this would however backfire, not just on him but on Lagarde also. Rather than facing push-back, they would then both face open resistance. Draghi should note the risk of this backlash, which would set the easing agenda back, whilst considering his options for the next Governing Council meeting.
Lagarde will have noted her lack of credibility and lack of trust in “agile”. It is less likely that she will just steam ahead, without trying to build a consensus. That is of course, unless there is a new crisis that allows her to assume executive control and effectively “do whatever it takes”. She may actually view this crisis as her best option right now.
The road to further easing and economic serfdom in the Eurozone has just become a longer and more tortuous one. Since the Eurozone economy is weakening however, the ultimate result is assured. The Fed has made a big deal about being “patient”. The ECB may now be forced to drop “agile” for self-inflicted “patience”. Unfortunately, the ECB’s patience is enforced, by the lack of consensus, rather than the incoming economic data. Draghi thinks out of the box. Unfortunately, he must act within the box this time. Lagarde is already boxed in. Fortunately, ECB “patience” will be short-lived as global economic conditions are deteriorating rapidly.
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