-- Posted Monday, 17 October 2011 | | Disqus
By: Dr. Jeffrey Lewis
Investors sent German government bonds higher, banking on a rate cut from the European Central Bank. Now just days after bullish bond sentiment reached its peak, investors have backed off, realizing that a rate cut might be less likely than once thought.
Rates are already held low by the European Central Bank, which stopped short of actions on a magnitude to mirror the United States. The ECB currently offers a 1.5% rate on its main financing operations, known as fixed-rate tenders.
Some economists believed the ECB would indirectly lower rates by assuming bank losses. Nationalizing the banks remains a big issue in Europe, where major EU members have fought against a move to internalize sovereign debt balances. Any move to “nationalize” banking losses would come as a result of ECB bond buying, which would remove risky sovereign debt assets from private banks while turning over the risk assets to the balance sheet of the ECB.
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Looking to Australia
If the ECB were to cut directly the rate at which it makes capital available to banks, it would likely come after a move by Australia to lower rates. Flooded with foreign cash, the 4.5% rate on short-term paper in Australia makes the commodity economy a natural resting place for inexpensive foreign capital. Finance ministers have discussed the possibility of lowering the Australian benchmark index in order to boost economic growth.
A rate cut in Australia would give Europe the nod to reduce rates as well. Australia’s economy remains a major siphon for quantitative measures in the United States and Europe. Keeping the spread as thick as possible will allow the European Central Bank more room in inflating the Euro without driving up local prices.
Australia already shows the effects of large-scale capital flows. Hiring is accelerated, and investment in the country’s vast commodity resources appears to be unlimited. However, few on the continent have forgotten the short-term boom in interest rates following the 2009 financial crisis. As investors brought cash home, the Australian economy suffered an immediate loss of capital at a rate which pushed consumer interest rates to 9% or higher. Australia does not have an institutionalized 30-year fixed mortgage rate like the United States. Higher rates immediately affect all households in the Australian economy.
Odds-On Wagers for Rate Cuts
Gauging the European Central Banks’ next move has never been as difficult as it is today. On one hand, the ECB has higher inflation rates than its charter would allow. On another hand, the banking system seems primed for failure without intervention.
Even more difficult to comprehend is the ECB’s willingness to stay true to its word. The economic union behind the ECB was formed on the basis of having very stringent sovereign debt and deficit rules guiding participation. If the ECB were to operate true to its charter, few countries in the union before the financial crisis of 2008 and sovereign debt crisis of 2010-2011 would still be in the union today.
Going forward, expect looser lending standards, greater internalization of externalities in banking bailouts, and lower effective interest rates, pushed down by an excess of freshly created capital. Even if the ECB keeps the headline rate low, privileged banks will still have access to credit from the ECB’s backdoor lending windows. And ultimately, more currency flowing toward commodities and precious metals.
Dr. Jeffrey Lewis
www.silver-coin-investor.com
-- Posted Monday, 17 October 2011 | Digg This Article
| Source: GoldSeek.com
