ECB Policy Shift & Unintended Consequences

Last week’s European Central Bank decision to lower their interest rate to -0.1% has the effect of forcing banks to lend funds or be penalized for holding cash. This is another attempt to stimulate economic activity and alleviate the fear held in the Euro Zone that the EU was at risk of slipping into a deflationary spiral.

At the same time the ECB also announced it will cease sterilizing it’s security asset purchases in managing liquidity. Until now, when the ECB issued cash by buying government bonds in the market it would, at the same time, make a corresponding sale of bond securities in a process that effectively had a net nil effect on liquidity to the economy. The ECB at the same time however was able to sterilize it’s bond purchases and secure the quality of its portfolio.

The impact of these two decisions is to release the ECB in order that it can now issue new money (read print money) to the economy. It has embarked on the same money printing process used by all other major central banks.

The consequence of this is to bring the risk of price inflation to the EU and engage the EU in a currency war with all other major economies as their central banks duel to depreciate their currency against the others. What can possibly go wrong?