Christine Lagarde must get ready to fight on two fronts by Christian Odendahl
As Christine Lagarde takes over the presidency of the ECB, she has little room to ease monetary policy. She will need to convince northern European fiscal policy-makers to help. Mario Draghi will soon hand over the European Central Bank (ECB) to Christine Lagarde, the former head of the International Monetary Fund (IMF). He will pass on a much more powerful and modern central bank than the one he took over in 2011: the ECB has a bigger toolkit with which to fight recessions and support financial markets; it is an experienced crisis-fighter and the de facto guarantor of the euro; and it is Europe’s top bank supervisor. But Draghi is also handing over an economic situation that could hardly be worse for the incoming president: the economy is weakening, with Germany probably in recession; inflation has remained stubbornly below target for years and is falling again; and interest rates are at or below zero, even for bonds that only mature in 30 years time.
Image: © IMF
In his penultimate monetary policy meeting in September, Draghi pushed through a new stimulus package. By ECB standards, it was a timely response to recent economic data. Resistance to the stimulus was not confined to the traditionally reluctant members of the ECB’s governing council. But Draghi was right in his analysis – and right to prepare the ground for the incoming president. By absorbing the criticism of the conservative press in Germany and elsewhere, he made the job for Lagarde considerably easier.
But it is still a bloody difficult job. The economy shows little sign of improvement. Europe’s manufacturing sector is suffering from a global slowdown, in part caused by uncertainty: the US-China trade war continues to rage, the tensions in the Gulf are escalating, and Brexit remains unresolved. Lagarde may well have to ease monetary policy further. However, the monetary toolbox is almost fully in use. Lagarde can only give the screws another turn. The ECB’s key interest rates are at 0 per cent (the refinancing rate at which banks can borrow central bank money) and -0.5 per cent (the deposit rate at which banks deposit central bank money). This is low, but interest rates on German government bonds are lower still. The ECB could cut rates further, as the Riksbank has done: the comparable Swedish rates stand at -0.25 and -1.25 per cent respectively. To ensure that bank profits are not hit unduly by negative deposit rates, the ECB has introduced a tiering system, so that banks only pay negative rates on deposits above a certain threshold. Interest rate cuts also affect the ECB’s Targeted Longer-Term Refinancing Operation (TLTRO) programme, which provides money to banks for up to three years on condition that they make new loans to businesses or homebuyers. The interest rate on this long-term funding is