No Shock and Awe from Draghi

This seems to be the among the first time in several months that ECB President Draghi has been rather anti-climactic.   The disappointment or the "sell the rumor buy the fact" scenario we suggested is, in fact, unfolding, and the euro is correcting higher.  

Without indicating a size of the program, Draghi did provide more details.  The covered bond purchases will begin in the middle of the month, while the ABS purchases will start later in Q4.  It is initially envisioned to last two years.  Precisely what the ECB will buy will provided in a technical note shortly.  

Draghi did indicate that ABS lower than investment grade could be purchased under certain conditions.  Greece would be the primary beneficiary of this further dilution of the ECB's criteria.   Cyprus can also benefit.  We suspect there may be other beneficiaries as well.  This immediately got the chins wagging, of course, about the ECB becoming a bad bank.  This is a bit over the top.  Some critics said that same thing about Trichet's SMP program.  The hyper-distressed Greek bonds it bought at the time turned into a lucrative investment.  Greek bonds did rally on Draghi's comments. 

Draghi reiterated the party line that the euro is not the object of policy.   However, as he indicated before, the exchange rate influence inflation and growth.   Keep in mind, the under ordo-liberalism, that Draghi has previously said was part of the ECB's DNA, monetary policy is not the preferred instrument to stimulate growth, as under the neo-liberalism that is seen in Anglo-American economies.  Monetary policy can address inflation.  Indeed, that is, as is well appreciated, the ECB's only mandate.  

The decision to buy securities and cut interest rates last month was not unanimous.  However, as we noted Bundesbank President Weidmann has previously indicated that under certain conditions, QE may be appropriate.  Draghi stopped short of any reference to a sovereign bond purchase plan, which some investors had hoped for, and this may help explain the heavier tone of most euro area bonds.  While Draghi is committed to the TLTRO and the ABS/covered bond purchase plan, he did say the ECB was (remains) unanimous that more measures can be taken if necessary.  

The key is what are those necessary conditions and who decides.  Many observers misunderstand the ECB.  Despite the SMP, OMT, rates cuts and the asset purchase plans going against German wishes, they still think that Germany dictates ECB policy.  This is the virtue of democracy.  Germany can influence the outcome, but it cannot dictate it.  

There is much interest in the new voting mechanism that begins in January, whereby not all the central banks, including the Bundesbank, will vote at every meeting.  Some argue that this matters little; that previously, formal voting was an exception in the collegiate atmosphere.  When the Bundesbank does not vote, it will still participate in the discussions and make its views clear.   Some thought Germany would seek a concession--to have a permanent vote for the Bundesbank.  Again, the way democratic institutions work, Germany cannot command this, and there is little reason for France and others to agree.  

Lastly, we note that Draghi did not comment on the low preliminary September CPI print or the unexpected decline in the core rate reported earlier this week.  Nor did he refer to the sub-50 reading of the German manufacturing PMI or the decline in prices in the regional manufacturing PMI.   On the contrary, he suggested that the ECB outlook for next year remains intact.  A gradual economic recovery with inflation remaining low (though to stop falling) and gradually increase.