Looming expansion of the European Central Bank’s campaign to revive the euro zone economy is running into resistance in Germany, raising fresh questions over the limits of the bank’s actions.
At the start of a week in which ECB governors meet in Frankfurt to discuss new stimulus measures, a leading German economist told a Dublin audience there should be no further loosening of monetary policy, as steps already taken by the bank presented threats to financial stability.
Prof Isabel Schnabel, a member of the influential German Council of Economic Experts, warned that negative interest rates curtail the profitability of banks and life insurers.
The council, an independent body which advises Berlin on economic policy, is also concerned that negative interest rates encourage excessive risk-taking in pursuit of “relatively small” returns.
Interest rates
The biggest danger to financial markets was that interest rates would rise suddenly in a couple of years, said Prof Schnabel, who holds an academic post at the University of Bonn.
ECB chief Mario Draghi is widely expected to push the bank’s deposit rate deeper into negative territory on Thursday in a bid to encourage lending.
The ECB may also expand the programme under which it buys €60 billion in euro zone sovereign bonds per month. The expectation of such measures, signalled for weeks by the bank, drove the euro’s value lower yesterday.
However, Prof Schnabel speaking at the Institute of International and European Affairs said that the ECB was inconsistent: “The ECB argues that financial stability risk should not be tackled by monetary policy but only by macroprudential supervision.”
“However, we also see that this can lead to inconsistency if on the one hand monetary policy tries to increase risk-taking in the economy and on the other hand, macroprudential policy is suppose to contain that risk.
“I think the ECB cannot ignore the consequences of its behaviour on financial stability. If it were taking these risk for financial stability into account I think it would be clear that monetary policy should not be loosened any further.”
Decline
Her remarks came one day after the Bank for International Settlements (BIS) – the central bank for central banks – warned of “great uncertainty” if negative rates decline further.
In a research paper at the weekend, BIS economists said zero had not proved to be a “technically binding” lower limit for central bank rates.
“The viability of banks’ business model as financial intermediaries may be brought into question,” the paper said.
Faced with such questioning, the ECB has already argued that euro zone banks can deal with record low rates and benefit from its efforts to encourage growth and inflation. Last week ECB executive board member Benoit Coeuré, a key Draghi ally, said many institutions have been able to “more than offset” declining interest revenue with higher lending, lower interest expenses, lower risk provisioning and capital gains.
However, Prof Schnabel said the compression of the spread between short- and long-term yields would hit German banks “quite substantially” in coming years.
“In addition, German life insurers will be hit very hard by the low interest rate environment. At the moment the average guarantee rates on the products are around 3 per cent. It’s not easy to earn that in the market so there could be substantial problems in the German life insurance sector.”
