Mario Draghi’s monetary machinations are futile because of the eurozone’s undercapitalised banks and miserly German spending, Tilney Bestinvest chief investment officer Gareth Lewis says.
The transmission mechanism of monetary policy is through banks, which is why QE was used in the US and UK, he explains.
For QE to work, the assets have to be bought from other institutions – avoiding banks – precisely because they are in crisis, he says.
That has not happened in Europe, and if it does it appears the assets will be bought from the broken banks, so any monetary actions by the ECB will not make it to the real economy, he says.
“We do not believe the European banks are anywhere near re-capitalised and if that’s the case the banks do not transmit monetary policy: It does not matter what the central bank does with interest rates.”
Only US banks are close to the finishing the cleansing of bad loans from their balance sheets, Lewis explains.
“If you look at the world, as we see it, with the exception of the US the others areas haven’t gone through the same loan loss recognition.”
The UK is partway through an asset clean out, but all the mis-selling scandals and benchmark manipulations have created other liabilities on the balance sheets, he says.
Meanwhile, northern European banks – the trading bloc’s “strongest” – had written off just 4.2 per cent of their peak loan assets by the end of the first half of 2014.
The big four UK banks have made provisions for 7. 9 per cent, while the four largest US institutions have written off 13.9 per cent.
Historically, a “typical” single-country banking crisis will wipe 10 per cent off the value of banks’ loan books, Tilney Bestinvest research shows.
The eurozone needs a more relaxed German budget and the monetary stimulus of true QE, Lewis says.
“The Germans need to start spending again; as one of the great saving nations, they are not doing any of the heavy lifting needed to help create economic growth.”
It is an “urban myth” that QE lowers bond yields, he adds.
“It’s not true. The expectation of QE drives down yields, but the QE itself makes them rise because QE is pro-growth and pro-inflation.”
The asset quality review was a “missed opportunity”, he adds.
“[We] believe that the weak capital position of European banking sector will condemn the eurozone to deteriorating money supply as the banking sector continues to rebuild balance sheets through retained earnings.”
Poor Chinese growth and depressed commodity prices is likely to transmit the western banking crisis to the eastern emerging markets, he says.
He expects to see a “baton passing” of monetary stimulus between the major economies keeping global growth ticking along at a slow pace.