ECB Spawned Mass Culture of Financial Dependency that’s Now Very Hard to Undo

Right at the front of the monetary welfare queue is the government of Italy.

By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.

As the Eurozone economy continues to grow, pressure is rising on Europe’s biggest bond buyer, the ECB, to withdraw from the market, a process it has already begun. No one believes that more than the head of Germany’s Bundesbank, Jens Weidmann, who recently told Spanish newspaper El Mundo that the ECB should soon set a date to end its multi-trillion euro asset-buying program.

”The prospects for the evolution of prices correspond to a return of inflation to a level sufficient to maintain the stability of prices,” he said. “For this reason, in my opinion, it would be justifiable to put a clear end to the buying of bonds by establishing a concrete date (for ending the program).”

Weidmann, who is hotly tipped to replace Draghi in 2019, has been one of the most vocal critics of the ECB’s QE program.

“Central banks have become the largest creditors of nation states,” Weidmann noted. “With our program of bond purchases, the financing conditions of Member States depend much more directly on monetary policy than in normal times. This could lead to political pressure on the ECB board to maintain lax monetary policy for longer than would in fact be justified from the perspective of price stability.”

Though it has lowered its asset purchases to €30 billion a month, the ECB has pledged to keep buying until at least September. But with the Eurozone economy growing faster than it has since the crisis and inflation comfortably above 1%, the ECB is widely expected to wind down the program thereafter. “If the economy continues to do so well, we could let the program run out in 2018,” ECB rate-setter Ewald Nowotny told Sueddeutsche Zeitung.

But what would that mean for the countries, companies, and banks that have grown to depend so much on the ECB’s extraordinary largesse?

Right at the front of the monetary welfare queue is the government of Italy, which is saddled with one of the biggest public debt mountains on the planet. The ECB now holds €326 billion of Italian bonds, an amount that far exceeds the €246 billion increase of Italy’s gross national debt since 2012, when this program started. The ECB’s binge buying of Italian debt has enabled just about every other investor in the market, including Italian, French and German banks, to offload some of their holdings.

As the ECB cuts its purchases of Italian bonds, those investors will have to come back into the market in a big way; otherwise the yields on Italian bonds will begin soaring, driving up the costs of funding for the government. This will be a huge, perhaps even insurmountable, problem for a country whose economy is still 6% smaller than it had been before the global financial crisis of 2008.

But the problem of mass financial dependency in Europe created by the ECB’s unconventional monetary programs extends far beyond national governments. As the IMF warned in its latest note on Spain’s financial system, Spanish banks have also grown dangerously dependent on ECB liquidity in recent years, with 6% of their total funding now coming directly from the central bank’s coffers

In this case it’s not the ECB’s QE programs but rather its myriad TLTRO programs, clocking in at almost one trillion euros, that have fuelled the dependency. Many banks used the virtually free loans the ECB offered them for carry-trade purposes, acquiring 2-3% yielding Spanish bonds and pocketing the difference. According to the IMF, by the close of 2016, one entity (whose identity it refuses to disclose, for obvious reasons) relied on ECB funding for 17% of its liquidity needs.

Although the report’s authors acknowledge that overall Spanish banks’ finances have improved in recent years, they have serious reservations about the banks’ capacity to access sufficient funds in an adverse market scenario. They also believe that replacing ECB financing, which is virtually free of charge, with funds provided by the more expensive wholesale market could be “detrimental” to the stability of Spanish banks. There could even be “liquidity tensions” if the ECB opts to cut off the liquidity tap too fast.

Also at risk of a drastic draw down in ECB funds are the hordes of zombie companies for whom the ECB’s buying of corporate bonds and the artificial regime of low or even negative interest rates have provided a desperate lifeline. According to research by Bank of America, about 9% of Europe’s biggest companies could be classified as the walking dead — that is, companies with interest-coverage ratios at 1 or less and that risk collapse if the support dries up.

In other words, rather than helping to address the myriad systemic issues plaguing Eurozone banks, the ECB’s multi-trillion euro monetary policy measures have merely delayed the inevitable while creating a mass culture of monetary dependency at the very top of Europe’s shaky economic edifice. By Don Quijones.

Did someone say “referendum?” Read…  Switzerland too Falls Out of Love with the EU

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  40 comments for “ECB Spawned Mass Culture of Financial Dependency that’s Now Very Hard to Undo

  1. Hendrik1730 says:

    The “economy” doing well? The only things I see and/or read is that youngsters cannot afford buying a house anymore, “employment” is equal to hiring public servants or subsidised “jobs” doing absolutely “nothing” and that pensioners cannot to live off their pensions anymore. I do not know, guys ….

    • Joan of Arc says:

      There is a very simple solution to all that you posit. Youngsters live in the basement, remove snow and cut the lawn. Pensioners live on the main floor where they don’t have to climb stairs and they can babysit. The middle agers who pay the mortgage live upstairs with the children who need babysitting. Other related siblings and relatives live in the converted garage where they can raise some money collecting aluminum cans. The driveway is parking for a couple of old motor homes that two cousins live in who eat at stores giving out free food samples. This is efficiency at its finest. It helps save the earth from more housing development.

    • Yes and I understand in countries like Spain and Italy the problem is even worse

      • Nick Kelly says:

        It is so usual for men in their thirties to live with their parents in Italy that I seem to recall a government ad campaign to discourage it.

  2. Joan of Arc says:

    It is a bit disheartening that Italy is first in line…they were, after all, the former seat of power of the Roman Empire. I, therefore, do not begrudge them some monetary slack. I think Marco Polo, friend of Kublai Khan, would agree.

    • MC01 says:

      Sir Barry Cunliffe, who knows a thing of two about the Roman Empire, nicknamed it “A Consumer State”.
      It was basically built around a “highly consuming core”, dominated by the capital herself, Rome, but also including the great metropoleis such as Alexandria and especially Antioch, which became the de-facto Eastern capital and was much favored by emperors such as Tiberius and Hadrian.
      To feed this core, provinces were highly taxed: some of the taxed was used to support provincial administartions and the frontier defences, but the bulk went to feed these non-productive centers.
      Until new provinces could be added the system more or less worked but when Trajan’s highly successful but also wildy expensive military campaigns failed to add anything of value: just to give an example the port of Charax, which Trajan had hoped to heavily tax in perpetuity, was taken back by the Parthians mere months after Trajan himself had died and, plainly put, there was no money to take it back.

      Much to his credit his successor Hadrian set about reforming the Empire to make it self-sustaining and to allow the provinces greater financial autonomy and, at the same time, curb the excesses of the consuming core.
      For a while his system worked, until the Antonine Plague disrupted it. From that point onward the Roman Empire basically lived on luck: as long as its enemy were so obliging to present themselves one at the time they could be kept in check and repulsed but as soon as the decaying Parthian dynasty was replaced by the bellicose Sassanians and, more critically, the disturbed conditions of the Eurasian Steppe sent wave after wave of would be invaders crashing against the borders, the serious problems started.

      • Maximus Minimus says:

        I just replaced names from the Roman empire with equivalents from the British empire, and it came out the same. I am about to do this exercise with the American empire…
        The idea that there’s a rational core to society in general is overrated: it always consumes above its means at the expense of nature until some event topples it.
        It becomes so obvious with the benefit of hindsight.

  3. Maximus Minimus says:

    Inflation is almost non-existent because of wage arbitrage with Eastern Europe, and then still further. On the other hand, mortgage rates are as low as 1.2%, and so that is where the inflation has moved. I am a total non-conspiracy theorist, but am beginning to believe that this is the plan to enslave the masses. Even the Messieurs at the ECB cannot be that stupid. My investment is 60% stupidity, 40% conspiracy.

    • Joan of Arc says:

      “I don’t mind you calling me a conspiracy theorist as long as you don’t mind me calling you a coincidence theorist.” – unknown

  4. Tony of Ca says:

    EU is not growing. It’s a statistical mirage. I find it ridiculous when articles start with proposition the EU is on a growth trajectory.

    • Tinky says:

      I would suggest that it is not the author, but the ECB and mainstream economists who are making the claim. And if so, it is perfectly reasonable of DQ to lay out that proposition.

    • Cashboy says:

      It is funny because I keep hearing that the EC is expanding. However I see more and more EC citizens coming to the UK to get work and I thought the Uk wasn’t doing that well but on that basis must be better economically than most of the other EC members. I think the increase in GDP is actually created by the increase in the population of the EC with all the immigrants ariving from the Middle East and Africa.

  5. Kraig says:

    Wouldn’t cutting out Corp bond purchases and restricting government bond purchase effectively be federal eurozone bonds by the back door? If you purchase Corp,along with nation corps in a crises you’d avoid suspicion. It’s an almost perfect plan to save the euro, as long the market believe in the repurchase of the gov bonds (or at.least the percentage in the the agreement. Th3y effectively become a.mix of t-bills and unbacked.state bonds.

  6. Gershon says:

    The ECB has spawned a “mass culture” of financial dependency? Sorry, but the only beneficieries of central bank QE-to-Infinity, by design, have been their oligarch organ-grinders. A corrupt and venal .1% has grown grotesquely rich at the expense of productive economies, and the increasingly pauperized and debt-drowned middle and working classed.

  7. Anonimo2 says:

    “Central banks have become the largest creditors of nation states,”

    And this is how it should be. In a fiat monetary system it is not necessary to have a creditor parasitic class of bondholders. They are upset because they want their free lunch back.

    Tell me, why should the state go into debt selling bonds to private creditors, who will buy these bonds with fresh money created from thin air by commercial banks? Let’s bypass this unnecessary overhead ans let central banks create the moneu, which is what they were supposed to do in the first place.

    I wonder who is really dependent on monetary welfare, sovereign states that could create their own money or the leisure-rentier class that sucks the blood out of the economy.

    • Wolf Richter says:

      This sort of system where the government/central bank bypasses the markets and creates its own money to be spent as it pleases has been very successfully implemented most recently in Venezuela, Argentina, and Zimbabwe, all of which ended up destroying their currencies via blistering inflation — at a great expense to the overall economy.

  8. MC01 says:

    Dealing with the financial zombies a decade of “extraordinary” measures created will be the toughest challenge facing whoever will succeed Mario Draghi at the helm of the ECB. I am not talking about the governments. Those are a political case which will have to be solved elsewhere.
    I am talking about the many companies whose survival, if not business model, is enabled by the ultra-loose financial conditions created by the ECB.

    Companies go burst all the time, even in booming times. See the spectacular (and scandalous) bankruptcy of Ataka & Co at a time when the Japanese economy was hailed as a “can do no wrong” model. That’s the way of the world.
    Companies can be kept from having to radically reorganize, being broken up or just being liquidated, but it is expensive and it gets esponentially more expensive as time goes by: Alitalia, Italy’s much troubled flag carrier, filed for bankruptcy protection for the third time in eight years in May 2017. It loses millions every day it’s in operation and it has been long replaced by Ryanair (a profitable company) as Italy’s leading internal carrier. After years of hiring highly ineffective “company doctors” at extravagant rates even the Italian government has lost patience: the costs far outweight the benefits even on the political side.
    It’s highly unlikely Alitalia will survive the next government, whatever its color: it will probably be broken up, the best bits sold off to Johnny Foreigner and the rest (most of the company) quietly scrapped. Investors, including banks, will have to eat up their losses whether they like it or not: this is what happened with the recent Air Berlin liquidation, so it’s highly unlikely there will be much sympathy in Berlin and Brussels for the usual Hispano-Italian style ultra-generous bailout to investors who should have known better.

    Air Berlin itself was another financial zombie which saw its life unnaturally extended but in the end rotted away to such an extent its remains proved impossible to reanimate through financial black magic once again. German politicians briefly toyed with the idea of a bailout (masquerading as a “bridge loan”) but in the end thought better of it, most likely for electoral reasons, and let bankruptcy courts do what they are supposed to: make the company’s demise as painless and orderly as possible. Investors who had to eat up their losses moaned and clutched their pearls but in the end the world didn’t come to an end: the leased aircrafts were returned to lessors, the others carefully stored waiting for a buyer and the slots auctioned off.

    I suspect the return to normality from the financial crisis of 2009 is just starting and we’ll see a whole lot more zombies rot away or decapitated.
    It remains to be seen how this liquidation will proceed: it can be made orderly and as such do not result in that financial cataclism many seem to forecast, but it requires not giving in to the hissy fits of those who will have to eat up their losses, those who magnified the 2008 Financial Crisis to such an extent it’s still with us a decade later.
    They are far more dangerous and deadlier than any zombie has ever been.

    • James Levy says:

      The problem with your solution is two-fold: 1) the people who own and run these societies are the ones who would have to eat the losses, and that’s not happening short of a cataclysm; as long as they have anything to say about it, the investor class will be made whole no matter what; 2) the jobs that many of these firms offer will not be replaced by anything like them, and to preserve the myth that we live in basically “middle class” societies and not one of masters and servants, these jobs have got to be protected at all costs. Nowhere have ordinary jobs, outside of finance and tech, kept up in numbers and purchasing power. Trump isn’t president for no reason. The loss of the kinds of jobs those “zombie” corporations provide is economically devastating and politically untenable. Therefore, so long as the Power Elite have their hands of the levers of power, and those levers still operate, they will try mighty hard to keep as many well paying jobs as they can from disappearing.

      • Dan Romig says:

        James, your last sentence truly sums up the state of affairs in DC and on Wall Street!

        The Power Elite own the Executive and Legislative branches of the federal government, The Departments of Justice and Treasury, and last but not least, the Federal Reserve Bank of New York.

        As a reminder and at the risk of being ‘a broken record’, President Obama’s second Attorney General, Loretta Lynch, sat on the Fed’s Bank of New York’s Board of Directors under then Bank President Tim Geithner from 2003 to 2005. Why would President Obama appoint Lynch as the nation’s top cop, and why would Congress overwhelmingly approve her? That question is answered: The Power Elite have their hands on the levers of power, and that is what they choose. To me, this is like putting the fox in charge of the hen house.

        President Trump had, initially, 12 law partners from the Jones Day law firm in his administration. Jones Day’s lawyers contributed $7,422 to the Trump campaign and $267,899 to the Clinton campaign according to the Center for Responsive Politics. This was reported by Pam and Russ Martens in 18 December, 2017. Clearly, the Power Elite are on both sides of the coin, eh?

      • Zombie companies, real jobs…

  9. James Levy says:

    What always gets me are the people who insist that all this free money come with no strings attached because any conditions would be “interfering with the market”, as if QE and ZIRP weren’t as big an intervention in the market as has ever been witnessed by man!

    • cdr says:

      Nice work.

      You are doing what’s called “listening” and “paying attention” and “thinking about what you see”

      An amazingly high number of people just believe what they’re told.

      Good job. I try to listen and pay attention, too.

      To the downside, the size of the herd makes us a minority. It’s profitable to bet on stupid if the herd believes it, even if the herd is paying for it.

  10. Marco says:

    All this complaining about the Central Banks and the politicians and regulators that they have purchased.

    I’m sure they all have our best interests at heart, right?

  11. Drango says:

    Instead of trying to resolve the problems with zombie companies, Spanish banks and Italian debt, the ECB has instead decided to paper over the problem and hope it will go away. The financial press may be enamored of central bankers, but historians will marvel at the incredible incompetence of the economic hacks currently in charge.

  12. cdr says:

    “As the Eurozone economy continues to grow, pressure is rising on Europe’s biggest bond buyer, the ECB, to withdraw from the market, a process it has already begun.”

    As I recall, ECB QE (QE by any other name, TLTRO and any other) is still just QE.

    And ECB QE went into high gear (famous quote “And I promise it will be enough”) a few years ago after soverign interest rates in Europe threatened to rise due to market pressures. So the ECB forced rates lower and bought lots of soverign debt and, later, lots of private debt.

    Rates lowered so the Eurozone could finally live withing its means, subsidized by lots of ECB monetization.

    Now, the possibility of some form of a more normal existence is around the corner because some rumors are circulating? That’s Funny.

    When did the Eurozone finally reach the point it could live with rate normalization?

    Draghi still claims to be on the hunt for inflation. QE is deflationary. Waiting for inflation is like waiting for Gotot.

    Look: Income comes from a return on labor and a return on capital. Savings provides capital. You can’t have savings without normalized interest rates or decent wages. Inflation comes from an excess of demand over supply –> rising prices. People need income to muster demand. Interest income provides a lot of the income used to muster demand. Low rates –> low income –> deceased demand –> deflation.

    Also, lending is an expression of demand. People don’t borrow because rates are low (unless they’re borrowing to flip paper assets). They borrow because there’s demand for what they sell and the loans are to expand business. Only an idiot would assume loans exists because of a demand for loans.

    This is econ 101. Conclusion: QE is Deflationary.

    QE tries to replace the savings part with asset inflation, and loans to flip paper are the new normal for lending. Low rates and lowered wages provide no excess consumer demand –> no inflation. Open boarders and flexible labor sources don’t help either.

    Off topic: the phillips curve is another farce. Inflation is not correlated with jobs. Inflation is correlated with income. Assume 1000 minimum wage jobs vs 1000 normal jobs. Which group would affect inflation more? The phillips curve says they’re both the same. Also, income from savings should be included.

    Yet, economics professionals persist in waiting for Godot. They next question is why? I won’t deal with that today as I have done that many times before.

    • cdr says:

      “QE tries to replace the savings part with asset inflation”

      Correction: US QE does that. So does Swiss QE. Euro QE exists to subsidize Euro living expenses and Euro-existence.

      Each QE aims to support a different national goal.

    • says:

      Wow thanks cdr I read that once twice. Thanks for the succinct descriptions of the real economic reality.

  13. c smith says:

    “Rates lowered so the Eurozone could finally live withing its means, subsidized by lots of ECB monetization.”

    Do you realize how oxymoronic this statement is? “Live within its means…subsidized by…”

  14. Steve Clayton says:

    Hi DQ,

    Do you know what level of TLRTO funding each European Countries banks owe the ECB in relation to that 1 trillion euro figure?


  15. Cashboy says:

    I just can’t understand this printing of money and buying of assets.
    For example; The SNB is printing Swiss francs and buying overseas technology shares with this created money and yet the Swiss Franc is actually not only maintainging its value but increasing in value against other currencies.

    • Paul Morphy says:

      As I understand it the Swiss National Bank’s (SNB) operating mandate is far wider than the European Central Bank’s (ECB) mandate, in that SNB under it’s mandate can invest directly in company shares and stocks and in other financial instruments whereas the ECB, notionally at least, cannot do so.

      I agree with the sentiments expressed in the article. The debt crisis of 2008 has not gone away. At best it has been parked. European banks remain banjaxed. A quick look at the share prices of those same banks and a comparison between their current price and their 2007 price is indicative.
      Deutsche Bank shares in 2007 were trading at €90 a share, today they trade at €15 a share (and €15 valuation is highly suspect in my own view)
      Moribund for the past decade, European bank remain in intensive care. Were it not for the life support of the ECB, each of these banks would be consigned to the financial cemetery.

      The sovereign situation, widely covered on this site, is little better. European nations are carrying debt levels higher than at any time before. Massaging Gross Domestic Product figures to try to dilute the effect of this nominal very high debt hasn’t worked either.

  16. C Jones says:

    Relatedly – and even more revolting imo – is how the ECB still refuse to buy Greek debt. Which is about the only place left in Europe that could actually use the help, relative to what yields are available everywhere else. It’s revolting that the ECB have, on the one hand, essentially run out of bunds to buy and yet, on the other hand, still refuse to buy Greek debt. Oh wait the ECB is run by an Italian ….

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