Sometimes on this blog I will provide some economic commentary as opposed to just trades and whatnot. I read an
article on Bloomberg today that piqued my interest and so I've decided to comment on it.
Basically, the European Central Bank (ECB) decided to move its overnight inter-bank rate into negative territory in 2014. This was completely unprecedented at the time, but has since been done by the Bank of Japan (BoJ). These two monetary institutions believe in the flawed model of the Phillip's Curve, which for all intents and purposes claims that, at least in the 'short run,' inflation and unemployment are trade-offs. In other words, low inflation means high unemployment. This model was proven, in my opinion,
absolutely false during the 1970s and 1980s, when there existed both high inflation and high unemployment and vise versa, respectively.
I don't know why the current Monetary zeitgeist still relies
heavily on this concept to make policy decisions. To me, it is one of the most flawed models in all of Keynesian economics. So, their belief is that the economy is sluggish
because inflation is low, and therefore, stoking inflation will get the economy rolling. If anything, they believe in stoking inflation to avoid
deflation, which is another absurd fear that these institutions have!
Their thought process was that if they took overnight rates to negative territory that it would more or less force banks to make more loans, and that borrowing and spending (we'll call that credit growth) on the part of consumers and industry would let the inflation genie out of the bottle, solving Europe and Japan's recent economic malaise. In the words of Chandler Bing, "could they BE anymore wrong?"
The problem is two pronged:
- Europe's consumers and industries were heavily laden with debt during the pre-crisis go-go days and have been deleveraging, on the whole, ever since. Their balance sheets were effectively wrecked.
- Europe's banks are under newer and tighter regulations that are designed to prevent them from over extending and making bad loans. This over extension is exactly what led to the crisis.
What on God's green Earth makes the ECB believe that they can unleash any sort of credit growth? With borrowers unwilling to take on more debt, whether it is because they are incapable or because they are wary because of the crisis and its aftermath, and lenders the same,
how can there possibly be credit growth?!
Now we get to what this article is talking about, that no one should be surprised that European banks have had weak earnings. Trading revenues are down, especially in fixed-income, which should be no surprise given that the ECB is making sovereign debt a one-way trade. The ECB is also charging banks to hold reserves. And on top of ALL that, regulators are pushing litigation costs onto the banks and ramping up regulations because the Great Recession was the fault of 'greedy banksters and fat cats." You can't ask for banks to make more loans while simultaneously punishing them to do so.
You can't have your cake and eat it too, Europe.
