In Europe, they just bailed out the banks without raising their capital requirements. That was a mistake! The European economy is still sputtering, even more so than the U.S. economy. Two years ago, the head of the European Central Bank (ECB), Mario Draghi, promised “whatever it takes,” to save the euro, and stock markets around the world rallied.
Maybe, he did too good a job, because the euro has now become too strong. Yesterday, he attempted to drive down the value of the euro. He announced an end to sterilization, which is an obtuse way of saying, he was going to expand the money supply, which both theoretically and traditionally will cause the currency to fall. While he was speaking, the euro did indeed fall. However, when he stopped talking, the euro started rising again. Give it time . . .
He also announced other measures designed to force banks to start lending more aggressively, such as punitive negative interest rates for money held at the ECB. Unfortunately, their ability to lend is constrained by their relative shortage of capital. The ECB has missed their opportunity to force the banks to increase their capital. Now, they are in a box. Draghi may well be “pushing on a string.”
A different take is to remember that Draghi’s use of a famous phrase two years caused stock markets to rally worldwide. Yesterday, he used Malcolm X’s famous phrase “by any means necessary,” describing his commitment to drive down the euro.
Because central banks have so many tools to work with, investors are often warned to “don’t fight the Fed.” There is no doubt that Draghi has both the tools and the commitment to drive down the euro. (Among other things, that means it will become less expensive to take a European vacation . . . in another year or so.)
