In this article Will Bancroft looks at the continuation of the ECB's lending facility, what its impact will be in the markets, and whether the ECB is aware of the risks of its policies. The analysis looks at a rose tinted future the ECB is banking on, how the people of Southern Europe can check-mate the ECB if they do not play ball. Read on for more and what this all means for the gold price.
The European Central Bank has morphed into quite a different animal under the leadership of Mario Draghi. We have looked at Mr Draghi’s activity by central banks, LTRO has successfully kicked the can down the road for perhaps three years and delayed a Lehman style event at least for a while. It is a clever way of plastering over structural flaws. LTRO is an ingeniously indirect enough measure to avoid being labelled as pure quantitative easing, but the ECB is essentially acting as the lender of last resort to European governments. Stealth easing if you like.
The European banks, especially Italian and Spanish ones, have increased their holdings of domestic government debt. Spanish and Italian bond yields have declined significantly. LTRO had given birth to a state sponsored carry trade, where banks would borrow from the ECB at 1 per cent for year years and earn 5 per cent on Italian or Spanish 3 year paper, for example. This carry trade proved so lucrative that significant purchasing power has seen yields come in most at the 3 years and less duration. LTRO is widely being termed a ‘sugar rush’ for the markets, and it is just that. But, we know what happens after a sugar rush in economic and physiological terms.
The ECB is hoping that by the time its LTRO operations expire years down the road, the indebted Southern European nations will have reformed their economies, will be growing once again, and their…
