German recession fears and negative interest rates


Staff member
The risk sentiment has become much more positive in recent days, against the backdrop of a possible continuation of trade talks between China and the USA, easing tensions in Hong Kong and resistance to Boris Johnson's hard Brexit course.

However, the situation remains very fragile: Germany could enter a technical recession (based on today's disappointing industrial production figures), Fitch has downgraded Hong Kong to AA with a negative outlook, and both Sino-US relations and Brexit are far from resolved.

The problem with Germany (and any other European economy currently facing headwinds) is that interest rates are already negative thanks to the European Central Bank. That gives the central bank very little room to support the economy when growth in the euro area really deteriorates. It isn't easy to understand why the ECB insists so strongly on its dovish rhetoric. Based on what's priced in the markets, the ECB is expected to cut rates by 10-15 basis points and announce more stimulus in its next policy meeting on 12 September. That might well be expecting too much too quickly, but that's beside the point anyway. Stimulus is already too accomodative to begin with, and Christine Lagarde will likely continue down the path taken by Mario Draghi. The ECB insists it must push prices higher in order to fulfill its mandate of "price stability". If you think that sounds like a contradiction, you're not alone. Inflation in the euro area is at roughly 1% yoy. That is below the ECB's target of 2%, but still comfortably above deflation territory. Unemployment remains low, GDP is growing, wages are growing by 2-2.5% yoy and debt is shrinking in real terms. With borrowing costs approaching zero the situation is rather convenient for consumers and most governments.

To sum up: I see absolutely no need for additional stimulus measures at this time, but I'm afraid the ECB isn't listening to my concerns. Instead, Mrs Lagarde is going to put climate change on the ECB's agenda. I wonder how that fits into its mandate of price stability!