photo: European Parliament
The bottom line is that unconventional monetary policies that move away from repairing markets or institutions to changing prices and inflationary expectations seem to be a step into the dark. (Rajan 2013)
A step into the dark
Following the announcement of last 10 March, as part of its enhanced monetary policy action, Mario Draghi’s ECB has undertaken to purchase investment-grade euro-denominated bonds issued by non-bank corporations established in the euro area, under the new so-called corporate sector purchase programme (CSPP). In conjunction with the non-standard measures already in place and the new measures announced on the same occasion, the CSPP will provide further monetary policy accommodation in an attempt to further strengthen the pass-through of the Eurosystem’s asset purchases to the financing conditions of the real economy. With the CSPP, Draghi intends to return the stagnating economies of the Eurozone to an inflation dynamics in line with its official target.
The absolute novelty of the CSPP is the activation of a new monetary transmission channel whereby newly printed money would flow this time directly into the real economy, instead of risking to sink into a dysfunctional and unresponsive banking intermediation sector. The CSPP thus promises to get a greater “bang for the buck” than any other measures attempted by the ECB so far. There’s no question that the courage and resolution of the ECB’s president deserves applauding.
Yet serious issues lie ahead of program implementation, which need to be clarified before jumping to optimistic conclusions about the expected effectiveness of the CSPP, ranging from its still nebulous structure to the more fundamental question of whether monetary policy alone can be relied upon for dragging the Eurozone out of secular stagnation, short of taking on itself more of a fiscal responsibility, such as, for instance, by injecting money directly into people’s pockets (Muellbauer 2014).
According to the International Capital Markets Association (ICMA 2016), some key questions relating to the CSPP structure include:
- What is the likely size for corporate bond purchases, and how will this be split between primary and secondary market purchases?
- What will be the criteria for selecting bonds, in terms of issue sizes, country of issuer, and liquidity? And will there be concentration limits for issues or credits?
- What will be the structure of purchases, and will the ECB or the National Central Banks act as principal or will purchases be outsourced to dealers?
- How will the purchases impact market liquidity and quality, and how will this be monitored?
Another key question is whether the money borrowed from the corporations would actually be used for investments in the real economy.
Even more relevantly, while the details of the CSPP are still to be worked out, the markets already consider there to be winners and losers from the program as the ECB is expected to buy non-bank debt issued by investment-grade corporates with relatively stronger balance sheets. Since such corporates are mostly concentrated in the Eurozone’s core, only the largest of the member states and very few of the smaller ones will benefit from the program, while those without deep corporate debt markets will simply be unaffected by it. Moreover, it is rather uncertain how much of the increased activity of the large corporates of the core would impact the economies of the periphery.
Such an outcome will frustrate the hopes of those who were expecting a targeted stimulus to the Eurozone’s weaker economies, and highlights the intrinsic inadequacy of macroeconomic policy in a monetary union with heterogeneous financial markets and national economies and with no instruments to address such heterogeneities to any acceptable extent. The risk of the CSPP is that the ECB will end up further dividing the Eurozone between stronger and weaker members (Alloway 2016).
From the CSPP to ECB-EIB program
In a recent comment we suggest that the ECB purchase newly issued bonds from the European Investment Bank (EIB), which would then use the proceeds to finance selected investments in those Eurozone countries that more than others need to revamp aggregate demand and expand their output growth potential. The proposal, originally submitted by Varoufakis (2015), would have the EIB issue bonds to cover the full cost of a pan-Eurozone investment program, which the ECB would purchase under its QE operation. The investment program would span from large infrastructural projects to smaller scale initiatives such as start-ups, SMEs, technologically innovative firms, green energy research, etc. The program would imply new orders for large local industrial complexes, which would reactivate production and employment, stimulate private investments and expand output capacity.
In light of the ECB’s intention to facilitate the financing of the real economy and considering the special nature of the EIB as the EU supranational investment finance institution, the ECB could commit to buying bonds specifically issued by the EIB. Under an apposite ECB-EIB program, the ECB would purchase only one single very-high quality type of asset, thus minimizing its financial risk exposure, and be able to reach a much broader and diversified set of corporates across the Eurozone than under the CSPP, without having itself to cherry-pick winners or to take on a quasi-fiscal or investment financing role (as the CSPP would require it to do). Furthermore, the monetary stimulus would be directed to those countries that need it most, and in particular to those sectors of their economies that can absorb the new investment spending more effectively.
Considering the need to tailor the stimulus to individual country needs, the ECB-EIB program could be implemented at the country level by involving the National Central Banks and by granting them the authority to use the Emergency Liquidity Assistance (ELA) facility to purchase EIB bonds. Specifically, once a national government and the EIB identify feasible investment initiatives that are consistent with the macroeconomic objectives of the country, in particular its inflation gap vis-à-vis the Eurozone target, the EIB could locally issue a volume of bonds adequate to finance the full cost of the investments. The National Central Bank would buy the bonds through the ELA and the EIB would finance the identified initiatives.
Complementing the ECB-EIB program with domestic fiscal action
While the above proposal would be a significant step ahead toward a more effective monetary policy pass-through in the current Eurozone context, it might still not be enough to bring monetary policy up to the warranted task: monetary policy might yet be unable to exert sufficient traction on the spending capacity of the economy. Acting through corporates depends eventually on their willingness to invest, which strongly depends in turn on their expectations of rising demand: if expectations (and animal spirits) don’t change, there is nothing monetary policy can do about it. On the other hand, acting through the EIB might run into the difficulty of not finding projects ready to be financed and executed, thus rendering the lag of the monetary stimulus uncertain and possibly diluting and weakening it.
There is therefore a compelling reason for accompanying the monetary stimulus with supportive fiscal action: only the latter can trigger spending processes directly or give people money that they can immediately spend. Therefore, while the monetary stimulus would require longer lags to reach the real economy, the fiscal lever would prompt spending more rapidly, improving expectations and crowding in private investment. The two policies, moving together, would ensure a larger and less uncertain effect.
Unfortunately, as recently noted by the vice-president of the ECB, stabilizing fiscal policy is restricted by law in the EU and, more generally, countries that could use it, won’t, while many that would use it, shouldn’t. This is why, in parallel to the ECB stimulus, governments of the Eurozone countries with stagnating economies and limited fiscal space should be advised to inject new purchasing power into their economies by helicoptering tax credits to households and enterprises (Bossone and Cattaneo 2016). The proposed tax credits would not affect current budget deficits and public debt levels, and would allow full compliance with fiscal compact and EU accounting rules. By raising nominal GDP growth, the use of the proposed tax credits would generate the resources necessary to cover for their fiscal cost and contribute to reducing the debt-to-GDP ratio. In the event of fiscal under performance, they would be accompanied by special safeguards to protect the budget balance.
The ECB of Mario Draghi is trying to enhance its policy toolbox in order to help the Eurozone lift itself out of an unprecedented, self-inflicted secular stagnation. There is more that the ECB can do to strengthen the impact of its action on the real economy, but monetary policy alone can hardly be up to the task. Fiscal policy must be supportive. Where fiscal space is unavailable, new instruments can be safely used to broaden it.
Alloway T (2016) “There’s a potential problem with the ECB’s plan to buy corporate debt. A tiered system for a tiered Eurozone, BloombergBusiness, 11 March
Bossone B and M Cattaneo (2016) “‘Helicopter tax credits’ to accelerate economic recovery in Italy (and other Eurozone countries)”, VoxEu, 4 January http://www.voxeu.org/article/fiscal-stimulus-helicopter-tax-credits
Bossone B and S Sylos Labini (2016) “The ECB’s original sin and Franco Modigliani’s long view”, VoxEu, 19 February http://www.voxeu.org/article/ecb-s-original-sin-and-franco-modigliani-s-long-view
Bossone, B, M Cattaneo, E Grazzini and S Sylos Labini (2015) “Fiscal Debit Cards and Tax Credit Certificates: The best way to boost economic recovery in Italy (and other Euro Crisis Countries),” EconoMonitor, 8 September
ECB (2916) “ECB adds corporate sector purchase programme (CSPP) to the asset purchase programme (APP) and announces changes to APP”, 10 March
ICMA (2016) “ICMA briefing note on ECB Corporate Sector Purchase Programme”, International Capital Markets Association, 15 March
Muellbauer J (2014) “Combatting Eurozone deflation: QE for the people”, VoxEu, 23 December http://www.voxeu.org/article/combatting-eurozone-deflation-qe-people
Rajan R (2013) “A step in the dark: unconventional monetary policy after the crisis”, Andrew Crockett Memorial Lecture, delivered at the Bank for International Settlements, 23 June
Varoufakis Y (2015) “Presenting an agenda for Europe at Ambrosetti”, Lake Como, 14 March
 See ECB (2016).
 This would require waving the convention that 50% of the funds come from national sources.
 While the long gestation period of investment projects is a serious issue, there should be no lack of planned initiatives at the national level that are currently gridlocked because national budgets are exhausted or because the local banking systems do not lend. By removing such constraints, the ECB-EIB program could help to speed up the launch of those initiatives.
 See “In defence of Monetary Policy”, opinion piece by Vítor Constâncio, Vice-President of the ECB, 11 March 2016.
 For a concise description of the proposed tax credits, see Bossone et al (2015). Originated by M. Cattaneo, the proposal was elaborated by the same authors in a public manifesto, available in English translation here. The proposal is also the subject of the recent e-book “Per una moneta fiscale gratuita. Come uscire dall’austerità senza spaccare l’euro”, edited by the same authors. The e-book collects a number of in-depth studies of the various (economic, legal, accounting, and institutional) aspects of the proposal. For a synthetic English version of the Fiscal Money proposal, see http://www.syloslabini.info/online/wp-content/uploads/2014/11/Appello-Inglese-rivisto_9-03-2015.pdf.