Macro Weekly How far can central banks go? Group Economics Han de Jong Chief Economist 10 November 2014 Alleged dissent within the ECB has dominated the economic and financial news recently. It seems the ranks have been closed, at least for now. The ECB is going ahead with aggressive further easing. We think that the compromise reached was not to go ahead with sovereign QE, at least for the time being. Economic data released in the week just gone by was generally constructive in the US, but mediocre elsewhere. Leaks to the media suggest that there is dissent in the bank is not a normal company and certainly not a normal bank. Governing Council of the ECB. That is not good. The intensity A leverage ratio is a solvency measure. It is an indication of of the crisis is much lower than it was in 2011, but central the size of losses that can be absorbed by capital. There is bankers can certainly not rest on their laurels yet, nor can one huge difference between the balance sheet of a normal other policymakers. They must continue to show determination bank and of a central bank. A central bank has a liability item and resolve, rather than in-fighting. The eurozone economy is that represents debt that will never be redeemed and over weak and looks vulnerable. Inflation has undershot the ECB's which the central bank does not pay interest. In case you are target for almost two years and is now so low that one has to wondering who, on earth, gives a central bank a perpetual, say that we are just one shock away from deflation. While a zero-interest loan, I must disappoint you: we all do. Currency in period with negative inflation is not the end of the world, the circulation effectively is an interest free loan we give to the ECB cannot ignore the risks. central bank and nobody considers asking for their money back. We are a great creditor to have. In the eurozone, I have recently been confronted several times with the currency in circulation amounts to EUR 970 bn, that is almost question how far central banks can go extending their balance half of the ECB's balance sheet. In the case of the US, sheets. The US Fed has boosted its balance sheet from below currency is USD 1,307 bn, or almost 30% of the Fed's balance USD 1,000 bn before the crisis to some USD 4,500 bn sheet. The Fed is a more leveraged institution than the ECB: currently. The ECB's balance sheet totals some EUR 2050 bn. that much is clear. Apparently, the ECB is planning to increase the size of its balance sheet to some EUR 3,000. This represents a If you consider an interest-free, irredeemable liability capital, remarkable increase in leverage as they are, to my knowledge, then the capital position of these central banks is very strong not planning to raise additional capital. Commercial banks and they could leverage up much further. But that does not have just gone through the Asset Quality Review and the ECB really answer the question of how far central banks can go. I stress test. Discussions about the minimum leverage ratio are suppose the real answer is that central banks can go as far as ongoing. For now the minimum is 3%, but it looks likely this will we let them. That is to say, as long as the public continues to be raised. Big UK banks will, most likely, be required to have a have confidence in the integrity of the financial system. minimum leverage ratio of 4.05%, with the possibility that this Nobody knows where that confidence ends, but there are no will be raised to almost 5% depending on the business cycle. signs that that confidence is eroding to any serious degree. Having said that, I guess it is not wise for central banks to try The question some clients have asked me is if central banks and live on the edge. It is probably a binary situation, comply with the same rules. The short answer is: no and that it confidence is either there or it isn't. A change from 'confidence' does not matter. At the end of July, the US Fed held USD 56 to 'no confidence' might be very abrupt. bn in capital, against a total balance sheet of USD 4407, implying a leverage ratio of 1.3%. The ECB had EUR 95 bn That is all theory capital as of 26 September, against a balance sheet of EUR What is important for now is that the ECB is following a 2038 bn, for a leverage ratio of 4.7%. If the ECB were to relatively aggressive course in their asset purchases. Our lengthen its balance sheet by EUR 1,000, its leverage ratio covered bond strategist, Joost Beaumont, estimates that the would drop to 3.2%. ECB has recently bought up to a third of new peripheral covered bond issues. So the ECB is not afraid to own relatively While it is perhaps interesting to look at these ratios and see them move, I think they are completely irrelevant. A central large chunks of a particular issue. 2 Macro Wee ekly - How far f can central banks go o? - 10 Nove ember 2014 4 In his press confference last Thursday, ECB President Ma ario gainst this reviised number, tthe 0.8% mom m gain in Octo ober ag aghi made it cllear that it wass not a slip of the tongue wh hen Dra wa as a disappoin ntment. Industrrial production did a little be etter, he said earlier that the ECB wishes to exp pand its balan nce ga aining 1.4% mo om after a reviised decline off 3.1%, which was eet towards the e level it was at a in 2012 and d clarified he w was she orriginally reporte ed as -4.0%. W What can we say? s Germans get refe erring to March h of that year. That T is serious business. ve ery good holida ays. Perhaps ssome of them did d not come back b ye et in Septembe er. Let's wait foor the October data. It still see ems any commenta ators believe that the ECB B will engage in Ma to us that the factors f that shhould be decis sive for the future buy ying government bonds. Theyy may be right, who knows? B But ajectory of the economy aree suggesting growth g should pick tra we still feel that iit is tricky for the t ECB. Other than size, itt is up p before too lon ng. t gain from bu uying governme ent nott obvious what the ECB has to bon nds instead of other assets, while the dow wnside is that itt is verry controversia al, particularly in Germany. A more logi cal app proach would b be for the ECB B to see if they y can get the ssize the ey want in the o other debt secu urities markets and only enga age in government bond buying g if they can't get enou ugh where. sattisfaction elsew Eco onomic data Eco onomic data re eleases were unexciting u this week. Measurres of October business confide ence were mo ostly weaker in em merging econom mies than in October. O On the e other hand, tthe US S ISM was verry strong, rising g from an alre eady firm 56.6 6 to 59.0. This level was last exce eeded margina ally in 2011 a and beffore that in 200 04. US initial jobless j claims were also bettter tha an expected at 278,000 last week, w continuing their downwa ard trajectory, indica ating a further improvemen nt in the labo our ma arket. But US p payroll numberrs disappointed d a little. 214,0 000 US S jobs were added on a net basis in Octob ber, a little shyy of exp pectations, though the previous two months s were revised up som mewhat. This d data is no reasson to change our view that tthe US S economy is d doing relativelyy well and conttinuing to recovver at a pace that is a above its long-tterm potential. e week was light on eurozo one economic data. The mo ost The closely watched were probablyy German indu ustrial orders a and industrial producction for Septe ember. Both series s had fal len arply in Augusst, when orderrs were down 5.7% mom a and sha pro oduction 4.0% mom. This was blamed on the unus ual patttern of holidayys with many more people than t usual takking holidays in Augusst. A solid reb bound was exp pected, assum ing e holidaymakerrs came back to t work. The data disappointe ed, the alth hough one hass to bear in min nd that this datta can be vola atile and d is prone to re evision. Actually, the terrible August data w was rev vised up. Orde ers were down n ‘only' 4.2% mom in Augu ust, insttead of the o originally reported drop of 5.7%. But evven 3 Macro Weeklly - How far can n central banks s go? - 10 Nov vember 2014 KEY M MACRO EV VENTS Day D ate Time S Saturday 08/11 1/2014 Monday Monday Monday Monday 10/11 1/2014 10/11 1/2014 10/11 1/2014 10/11 1/2014 Tuesday T T Tuesday T Tuesday Country Key Econo omic Indicators and d Events Period Late est outcome Con nsensus CN Trad de balance - USD bn b Oct 31.0 4 41.0 02:30:0 0 11/15/20 14 11/15/20 14 11/15/20 14 CN CN CN CN CPI - % yoy w yuan loans - CNY Y bn New Agg regate financing - CNY C bn m growth - % yoy y M2 money Oct Oct Oct Oct 1.6 857.2 1052.2 12.9 1.6 615.0 6 8 880.0 12.9 11/11 1/2014 11/11 1/2014 11/11 1/2014 00:50:0 0 07:00:0 0 13:30:0 0 JP JP US BOP P Current account - JPY bn Eco nomy Watchers Su urvey - index B small business optimisme o - index NFIB Sep Oct Oct 287.1 47.4 95.3 5 552.7 Wednesday W W Wednesday W Wednesday 12/11 1/2014 12/11 1/2014 12/11 1/2014 10:30:0 0 10:30:0 0 11:00:0 0 GB GB EC Claiimant count unemp ployment rate - % Cha ange in claimant co ount - thousands Indu ustrial production - % mom Oct Oct Sep 2.8 -18.6 -1.8 2.7 --23.3 0.7 Thursday T T Thursday T Thursday T Thursday T Thursday T Thursday T Thursday T Thursday 13/11 1/2014 13/11 1/2014 13/11 1/2014 13/11 1/2014 13/11 1/2014 13/11 1/2014 13/11 1/2014 13/11 1/2014 00:50:0 0 02:00:0 0 05:30:0 0 06:30:0 0 06:30:0 0 06:30:0 0 16:00:0 0 JP KR JP CN CN CN US RU Mac chinery orders priva ate sector - % mom Poli cy rate - % ustrial production - % mom Indu Fixe ed investments - % yoy Reta ail sales - % yoy Indu ustrial production - % yoy US Job J Openings by In ndustry GDP P - % yoy Sep Nov 13 Sep F Oct Oct Oct Sep 3Q A 4.7 2.0 2.7 16.1 11.6 8.0 4835 0.8 -1.4 2.0 Friday Friday Friday Friday Friday Friday Friday Friday Friday Friday 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 14/11 1/2014 07:30:0 0 07:30:0 0 08:00:0 0 09:00:0 0 09:00:0 0 09:00:0 0 09:30:0 0 11:00:0 0 14:30:0 0 15:55:0 0 IN FR DE CZ HU PD NL EC US US Who olesale price index x - % yoy GDP P - % qoq GDP P - % qoq GDP P - % yoy GDP P - % yoy GDP P - % yoy GDP P - % qoq GDP P - % qoq Reta ail sales - % mom Univ v. of Michigan cons . confidence - inde x Oct 3Q P 3Q P 3Q Q 3Q 3Q 3Q P 3Q A Oct Nov P 2.4 0.0 -0.2 2.5 3.9 3.3 0.7 0.0 -0.3 86.9 ABN AM MRO 16.0 11.6 8.0 0.4 0.4 0.2 0.1 2.5 2.9 0.1 0.1 2.4 2.8 2.3 0.1 0.1 0.4 87.0 0 0.2 0.1 0.3 87.4 So ource: Bloomberg, Reuters, ABN AM MRO Group Econo omics (we provide e own forecasts on nly for selected k ey e variables and events) e If yo ou would like to o receive this ca alendar by emaill on Friday, plea ase send a mes ssage to abn.am mro.group.econ [email protected] Ma ain economic//financial fore ecasts GD DP grow th (%) 2012 2013 2014e 2015e +3M +12M M 2014e 20 015e 2.3 2.2 2 2.2 3.8 U United States 0.2 23 0.23 0.3 1.3 3 0.3 1.7 -0.7 -0.4 0 0.9 1.7 E Eurozone 0.0 09 0.08 0.0 0.0 0 0.0 0.0 Jap pan 1.5 1.5 1.0 1.1 J Japan 0.1 19 0.18 0.2 0.2 2 0.2 0.2 Uniited Kingdom 0.7 1.7 3 3.0 2.8 U United Kingdom 0.5 55 0.56 0.7 1.5 5 0.7 1.7 Chiina 7.7 7.7 7 7.5 7.0 Wo orld Inflation (%) 3.2 2012 3.2 2013 3 3.3 2014e 3.9 2015e 30/10/201 14 06/11/2014 +3M +12M M 2014e 20 015e Uniited States 2.1 1.5 1.7 1.6 U Treasury US 2.3 31 2.38 2.6 3.1 1 2.6 3.3 Eurrozone 2.5 1.3 0 0.5 0.8 G German Bund 0.8 85 0.83 1.0 1.4 4 1.0 1.6 Jap pan 0.0 0.3 2 2.7 1.7 E Euro sw ap rate 1.0 08 1.05 1.2 1.6 6 1.2 1.8 Uniited Kingdom 2.8 2.6 1.6 1.7 J Japanese gov. bonds 0.4 47 0.47 0.5 1.1 1 0.5 1.1 Chiina 2.7 2.6 2 2.0 2.5 U gilts UK 2.2 23 2.25 2.6 3.1 1 2.6 3.2 Wo orld Key y policy rate 4.1 06/11/2014 4.0 +3M 4.0 4 2014e 4.0 2015e 30/10/201 14 06/11/2014 +3M +12M M 2014e 20 015e Fed deral Reserve 0.25 0.25 0.25 1.50 E EUR/USD 1.2 26 1.24 1.25 1.15 5 1.25 1.15 Eurropean Central Bank 0.05 0.05 0.05 0.05 U USD/JPY 109.2 115.2 115 123 3 115 125 Ban nk of Japan 0.10 0.10 0.10 0.10 G GBP/USD 1.6 60 1.59 1.60 1.53 3 1.60 1.53 Ban nk of England 0.50 0.50 0.50 1.50 E EUR/GBP 0.7 79 0.78 0.78 0.75 5 0.78 0.75 Peo ople's Bank of Chin na 6.00 6.00 6.00 6.00 U USD/CNY 6.1 11 6.11 6.17 6.25 5 6.17 6.25 Uniited States Eurrozone Sou urce: Thomson Re euters Datastream m, ABN AMRO Grroup Economics. 3 interbank ratte 3M 1 interest rate 10Y e C Currencies 30/10/201 14 06/11/2014 4 Macro Weeklly - How far can n central banks s go? - 10 Nov vember 2014 nd out more abo out Group Eco onomics at: http p://insights.ab bnamro.nl/en/c category/econ nomy/ Fin This document has been prepared by ABN AMRO O. It is solely intended to provide financial annd general information on economics. The infformation in this docum ment is strictly proprieta ary and is being supplie ed to s for your informattion. It may not (in who ole or in part) be reprod duced, distributed or paassed to a third party or o used for any other purposes than stated abbove. This document is s informative in nature and you solely does s not constitute an offerr of securities to the pu ublic, nor a solicitation to make such an offer. r. No re eliance may be placed d for any purposes wha atsoever on the informa ation, opinions, forecassts and assumptions co ontained in the docume ent or on its completenness, accuracy or fairness. No representation n or warra anty, express or implie ed, is given by or on be ehalf of ABN AMRO, orr any of its directors, offficers, agents, affiliate es, group companies, or o employees as to the accuracy or completeness of the information n conta ained in this documentt and no liability is acce epted for any loss, aris sing, directly or indirecttly, from any use of suc ch information. The views and opinions expreessed herein may be subject s to change at an ny given n time and ABN AMRO O is under no obligation n to update the informa ation contained in this ddocument after the datte thereof. Before investing in any pro oduct of ABN AMRO Ba ank N.V., you should obtain o information on va various financial and oth her risks and any poss sible restrictions that yoou and your investmen nts activities may encou unter unde er applicable laws and regulations. If, after reading this document, you y consider investing in a product, you are advised a to discuss such an investment with yyour relationship manager or personal adviso or and chec ck whether the relevantt product –considering the risks involved- is appropriate a within yourr investment activities. The value of your inve estments may fluctuatee. Past performance is no guarantee for future e returrns. ABN AMRO reservves the right to make amendments a to this ma aterial. © Co opyright 2014 ABN AM MRO Bank N.V. and affi filiated companies ("AB BN AMRO").