Who would have thought that the success of a Central Banker would be judged by his or her ability to debase their own currency? Ben Bernanke, Mervyn King and a procession of Japanese governors have all tried and failed to undermine their own currencies’ value. Can Mario Draghi succeed where his fellow policymakers have failed?
Not likely. I have blogged many times about the tenuous link between monetary expansion and consumer spending behaviour. In modern economies, the need to hold cash for transactions purposes has rapidly diminished and with it the power of monetary policy to influence either output or the prices of goods and services. Without this link, any monetary expansion is doomed to fail. Draghi knows this, I think, but he is being pressured into “doing something” to fight the “threat of deflation”.
But it’s not just me who is sceptical about Mr Draghi’s ability to reflate the price level. For its part, the bond markets in Europe have gone ballistic handicapping the ‘race to debase’ and the odds are pretty much stacked against the ECB. Long bonds are the most inflation sensitive securities (which means they should decline at the slightest whiff of inflation), yet they are up in excess of 5% in August alone. For these bonds to rally so strongly indicates that Mr Draghi has no chance of success. Instead the bond markets are predicting years, if not decades, of very low interest rates going forward. For instance, the German interest rate forward market has the cash rate remaining at 0% for the next five years, and less than 1% for the next 10 years.
With odds like these, its hardly worth starting…