The quantitative easing (QE) programme recently announced by the European Central Bank could lead to the buying of over-priced, poor quality assets with little benefit accruing to companies, warns the UK’s Warwick Business School.
Research undertaken by Dr Lei Mao, an assistant professor of finance at Warwick, has found that it is difficult for central banks to monitor the quality of the assets they are buying in such large amounts when unleashing QE
The ECB is bidding to revitalise the eurozone by buying €60bn (£44.8bn) of bonds a month, following the UK’s and US’s QE programmes that have helped deliver growth after the financial crash. However, Dr Mao warns that it is likely to lead to money being wasted on poor quality assets.
“My research at the micro level points out that a central bank’s repurchase of assets in the private sector, incentivises private banks not to monitor the quality of their assets, and thus the monitoring effect of the European financial system might be harmed.
“In reality, a concern widely exists that if the ECB is not informed about the detailed quality of the assets to be repurchased, QE would most likely result in buying over-priced private assets and providing private banks a virtual free lunch.”
Despite this concern, Dr Mao believes QE is a necessary risk given the parlous state of the eurozone economy and it should have been done sooner. “Any kind of micro level statement to explain why QE can be a waste of money has to be challenged by the current macroeconomic conditions of the euro zone,” he says.
“The very real risk of deflation, the slowing down of aggregate demand and investment, the lack of credit for private companies, the high unemployment rate in some countries, and many more reasons means the ECB has to act, though these problems should have been addressed a long time ago. QE is the last policy tool ECB president Mario Draghi can use; it has become strictly necessary.”
The ECB has said it will buy more than €1 trillion in assets purchases, which will include government debt, asset-backed securities and covered bonds, but not corporate bonds, to try to push inflation from its current 0.3% to 2%.
“Looking at the macroeconomic condition of the eurozone, most academics including myself, certainly support the ECB’s QE,” Dr Mao adds. “In fact, I have been waiting for the ECB’s QE for quite some time.
“Now with Draghi clearing away obstacles to QE, mainly caused by Germany’s absurd belief in austerity, I hope the generous spending will at least have some positive effects on the eurozone economy.
“In fact this should have been done a long time ago. QE would have been much more effective if it had been implemented before Germany’s economy started showing signs of slowing down, or even before the private banking sector in the eurozone countries stopped providing sufficient credit to private companies as they are full to capacity with government bonds.
“Germany’s obsession with austerity measures has blocked QE until now, but as it is finally rolled out in a larger-than-expected capacity, it could, ironically, be the German economy that benefits most from it.”
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