Easing means squeezing
Quantitative easing has both good and bad implications for Europe’s Banks
Jan 31st 2015
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EUROPEAN bankers depressed by the miasma in Athens might cheer up a bit if they focused on news from Frankfurt instead. The recent unveiling by the European Central Bank (ECB) of a €1.1 trillion ($1.25 trillion) package of “quantitative easing” (QE)—the printing of money to purchase vast quantities of bonds—should be as heartwarming for them as a resurgence of the euro crisis is chilling.
Cynics might be forgiven for thinking QE is a policy designed purely to aid financiers. Banks, after all, borrow vast sums of money (from bond markets, depositors and other creditors) to acquire financial assets (corporate bonds, say, or the promise to repay a loan with interest).
Even looser monetary policy helps the banks on both counts. On the one hand, it is cheaper for them to borrow money as interest rates are pushed lower. On the other, to drive bond yields down the ECB will have to drive bond prices up. Banks, which own lots of them, will be the biggest sellers.
Without QE, bankers would now have been fretting about the prospect of deflation. A fall in prices would inflate the real value of borrowers’ debts, nudging some of them into default. More broadly, if consumers defer spending in the hope that the items they want to buy will soon be cheaper, all businesses, including banks, will suffer. Those threats have now eased.
The ECB’s move will have other benefits, too, in particular if it helps pep up the moribund European economy. QE has prompted a swift fall in the value of the euro, which is good news for exporters.
Some of them might decide that, thanks to rising foreign demand, now is the time to take out a loan to expand. Exports account for more than a quarter of the euro zone’s output, a higher proportion than in other parts of the rich world, so even a small increase will have a sizeable impact.
But QE is also a threat to banks’ margins. The most basic measure of a lender’s profitability is the gap between what it charges borrowers and the interest it has to pay depositors. But few depositors are now getting any interest at all on their savings, and it is difficult for banks to offer them negative rates. Borrowers, however, will expect cheaper loans. The result is a nasty pincer.
The assumption in the markets is that the ECB will keep interest rates low for an extended period. That undermines another lucrative trick, whereby banks borrow money repeatedly for short periods, while lending it out for long ones. Such “maturity transformation” earns a good return in normal times, when interest rates for long-term borrowing are much higher than those on short-term loans.
The expectation now, however, is that interest rates will stay “lower for longer”. That has dramatically reduced the difference in rates for loans of different maturities, and with it banks’ opportunity to profit.
Those depressed earnings might endure: in Japan and America long spells of QE have left interest margins at their lowest levels in decades. Moreover, European lenders start from a tricky position. As well as Greece’s afflictions, which may yet metastasise, many banks face harm from soured loans to Russia or to faltering oil firms. Many banks have stretched balance-sheets after enduring both the financial crisis and the euro-zone debacle. If QE helps preserve them from further upheaval, that will at least be some comfort to finance-weary citizens.
EUROPEAN bankers depressed by the miasma in Athens might cheer up a bit if they focused on news from Frankfurt instead. The recent unveiling by the European Central Bank (ECB) of a €1.1 trillion ($1.25 trillion) package of “quantitative easing” (QE)—the printing of money to purchase vast quantities of bonds—should be as heartwarming for them as a resurgence of the euro crisis is chilling.
Cynics might be forgiven for thinking QE is a policy designed purely to aid financiers. Banks, after all, borrow vast sums of money (from bond markets, depositors and other creditors) to acquire financial assets (corporate bonds, say, or the promise to repay a loan with interest).
Even looser monetary policy helps the banks on both counts. On the one hand, it is cheaper for them to borrow money as interest rates are pushed lower. On the other, to drive bond yields down the ECB will have to drive bond prices up. Banks, which own lots of them, will be the biggest sellers.
Without QE, bankers would now have been fretting about the prospect of deflation. A fall in prices would inflate the real value of borrowers’ debts, nudging some of them into default. More broadly, if consumers defer spending in the hope that the items they want to buy will soon be cheaper, all businesses, including banks, will suffer. Those threats have now eased.
The ECB’s move will have other benefits, too, in particular if it helps pep up the moribund European economy. QE has prompted a swift fall in the value of the euro, which is good news for exporters.
Some of them might decide that, thanks to rising foreign demand, now is the time to take out a loan to expand. Exports account for more than a quarter of the euro zone’s output, a higher proportion than in other parts of the rich world, so even a small increase will have a sizeable impact.
But QE is also a threat to banks’ margins. The most basic measure of a lender’s profitability is the gap between what it charges borrowers and the interest it has to pay depositors. But few depositors are now getting any interest at all on their savings, and it is difficult for banks to offer them negative rates. Borrowers, however, will expect cheaper loans. The result is a nasty pincer.
The assumption in the markets is that the ECB will keep interest rates low for an extended period. That undermines another lucrative trick, whereby banks borrow money repeatedly for short periods, while lending it out for long ones. Such “maturity transformation” earns a good return in normal times, when interest rates for long-term borrowing are much higher than those on short-term loans.
The expectation now, however, is that interest rates will stay “lower for longer”. That has dramatically reduced the difference in rates for loans of different maturities, and with it banks’ opportunity to profit.
Those depressed earnings might endure: in Japan and America long spells of QE have left interest margins at their lowest levels in decades. Moreover, European lenders start from a tricky position. As well as Greece’s afflictions, which may yet metastasise, many banks face harm from soured loans to Russia or to faltering oil firms. Many banks have stretched balance-sheets after enduring both the financial crisis and the euro-zone debacle. If QE helps preserve them from further upheaval, that will at least be some comfort to finance-weary citizens.
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