After today’s numbers and forecasts for Germany negative interest rates are on their way for the Euro

Yesterday saw much more excitement and interest at the press conference of the European Central Bank than you might expect after an announcement of unchanged policy. There was also some incredulity at the statement by ECB President and ex-Goldman Sachs employee Mario Draghi that he was unaware that the Group of Thirty forums that he attends  are co-financed by Goldman Sachs! You have thought that his ex-colleagues might have bothered to tell him. However if we return to the economics we saw this from the ECB.

Compared with the September 2012 ECB staff macroeconomic projections, the ranges for 2012 and 2013 have been revised downwards.

Okay what are they then?

which foresee annual real GDP growth in a range between -0.6% and -0.4% for 2012, between -0.9% and 0.3% for 2013 and between 0.2% and 2.2% for 2014.

The real emphasis here was on 2013 where if you take the midpoint of the range for economic growth you see that it is -0.3% and this comes on top of a fall in 2012. So there is no relief in sight for the Euro area crisis as with negative economic growth then national debt to GDP ratios will get worse as plenty of nations still need to borrow substantially. I would not take too much notice of the 2014 figures where the ECB has followed my rule for official forecasts which is that you predict a return to growth as quickly as you feasibly can!

The inflation forecast

When I looked at this I immediately wondered what the ECB was really telling us.

This assessment is also reflected in the December 2012 Eurosystem staff macroeconomic projections for the euro area, which foresee annual HICP inflation of 2.5% for 2012, between 1.1% and 2.1% for 2013 and between 0.6% and 2.2% for 2014…. the projection range for 2013 has been revised downwards.

So if we concentrate on 2013 we see that the inflation forecast has been reduced and that its midpoint is 1.6%. We also see that 2014 has a midpoint of 1.4% and both of these are below the 2% inflation target.


In the language used by central banks weak growth which in this instance is likely to be so weak in 2013 it is negative combined with below target inflation means you can expect interest rate cuts. As someone who has been writing about the spread of negative interest rates you can imagine the bit below attracted my full attention. These are Mario Draghi’s words.

On the issue of negative interest rates on the deposit facility, there is nothing new to report. As Mr Praet recently has said we are operationally ready……

Did we discuss interest rate cuts?…….. There was a wide discussion but, in the end, the prevailing consensus was to leave the rates unchanged.

There are several important steps that have been taken here. Firstly it does matter that negative interest rates were mentioned and we got a hint from “wide discussion” that some had proposed them. If we project the expected economic weakness forwards then we can reasonable expect more to vote for them until a majority is reached. This would be quite a step into the unknown with many “unintended consequences” as Mario Draghi put it.

For those who are wondering why a 0.25% cut would take the official rate of 0.75% into negative territory plainly it would not. But the deposit facility rate is 0% and if it was cut then it would be -0.25%, and if it was cut then presumably the current account rate would be too. This matters as last time I checked they held 717 billion Euros between them.

Just to rub the matter in and reinforce it we were also told that some of the improvement in the Euro area money supply was technical.

The uptick in monetary aggregate (M 1) was mainly caused by one thing, the ESM paid their tranche and that increased the monetary aggregate by something like €30 billion

So some of the hopes from this were extinguished in what was a downbeat and grim summary.

The German economy is expected to weaken too

Even the Euro areas locomotive is expected to slow by its own central bank.

The cyclical outlook for the German economy has dimmed. Enterprises are cutting back their investment and hiring fewer new staff.

As we wryly observe that the slowdown is expected to be “temporary” -which now has the most number of entries in my financial lexicon- we have to consider that it might be anything but. This is something of a sea change as many of the recent numbers on the German economy have been okay to good.

If we look into the detail we see this.

following a rise of 0.7% in the current year (0.9% after adjustment for calendar effects), real gross domestic product (GDP) will grow by only 0.4% (0.5% after calendar adjustment) next year. In 2014 real GDP could go up by 1.9% if……

Again the real move here is in 2013 where the growth forecast has been slashed from 1.6% to 0.4%. If we put this year and next together this is a very anaemic rate of growth which will have consequences.

The unemployment rate could edge up to 7.2% in 2013

I can just imagine the German statisticians writing that with the enthusiasm of someone having a tooth pulled without anaestthetic! Although to be fair the Germanic nature seems very uncomfortable with producing rose -tinted 2014 forecasts as per my rule and has the decency to use words like “could” and “if”.


With forecasts like this the natural tendency of the German Bundesbank to resist negative interest-rates may not be at its peak. So today we have seen a reinforcement of yesterdays news and we have got even nearer to them.

What about the UK?

Yesterday on a dull and dank December day in London I passed a woman wearing sunglasses and was immediately reminded of this line from a song.

The future’s so bright I gotta wear shades

Unfortunately the numbers released today have not backed up her apparent optimism. In fact those of a nervous disposition might like to look away now as they are as Britney put it a rather toxic mix.

The seasonally adjusted Index of Production fell by 3.0 per cent in October 2012 compared with October 2011

The seasonally adjusted Index of Manufacturing fell by 2.1 per cent in October 2012 compared with October 2011

If these were not bad enough then we also saw this from the Bank of England inflation expectations report.

Median expectations of the rate of inflation over the coming year were 3.5%, compared with 3.2% in August

Indeed inflation is expected to be above target for the next five years! Please remember that the next time you hear someone from the Bank of England tells us that inflation expectations are “anchored”.

So will the UK take the path of negative interest-rates? Well firstly we have a base rate of 0.5% so there is room to cut first. But as the Bank of England’s preferred policy of Quantitative Easing  becomes more and more discredited -many commentators are slow in this realisation and some have not got there even now- then it is likely to cut interest rates again.

Actually there is a gloomy scenario where they end up increasing the amount of QE and cutting interest rates…

Of course they should take note of rising inflation expectations but in the credit crunch era they have completely ignored them so far. More serious opposition comes from the fact that they fear interest rate cuts may adversely affect the UK’s banking sector which they regard with the same love that Gollum in the Lord of the Rings loves his “precious”.

My campaign against the “improvement” of the Retail Price Index

Support for my campaign against this came from the Bank of England’s own inflation expectations report.

Asked to give the current rate of inflation, respondents gave a median answer of 4.4%, compared with 4.1% in August

As 4.4% is above the 3.2% currently reported by the RPI you might reasonably wonder about why it is not being revised upwards! If there are Martians they may be confused by why you reduce a measure that on this basis looks too low.

Or,of course you can take the view advanced by proponents such as David Smith of the Sunday Times that nobody -presumably apart from him- has any real idea of the actual level of inflation which is in fact lower. Apparently the rest of us only register price rises and fail to register price falls.

Oh and just for clarity whilst I expect negative interest rates I do not expect them to make anything better. In fact I expect them to make things worse.


This entry was posted in Euro zone Crisis, General Economics, Inflation, Quantitative Easing and Extraordinary Monetary Measures, UK Inflation Prospects and Issues and tagged , , . Bookmark the permalink.
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  • JW

    Hi Shaun

    As I said yesterday, there has to be more QE to keep monetising the debt. Its not a ‘maybe’ its a given. Inflation will continue to ‘surprise’ on the upside, because thats exactly what its intended to do. Crisis would really hit if the exchange rate suffered, but because the dollar, Euro , Swissie and even Yen are all being devalued at roughly the same rate, it doesn’t show up. Its just the 99.9% who suffer from a large drop in living standards.

    I caught someone from Deutche Bank being interviewed this morning saying something along the lines that its probably a good thing that Germany is also going into recession because now the ECB can do what it wants to do . So thats clear , as long as everyone is in the sh*t , its OK.

  • Miles Saunders-Priem

    Wouldn’t negative interest rates completely mess up the financial system? Wouldn’t it eviscerate deposits and savings? Truly the BOE is becoming more insane by the day! Canadian governer or not…

  • forbin

    Well I’d have hope they thought this through

    If I get charged for holding savings in a bank or building society I guess they think I’ll take it out and spend it and boost the economy…

    no , I think most people will take it out and go cash again or worse , barter.

    think about it , the banks having billions taken out of their accounts not just each month but in one great swoop

    I’,m sure they’ll make it illegal but once announced the people will try to find away without the banking system…… rip off Britain again


  • Alex

    Japan has a lost decade that turned into a lost 20 years and counting.

    Projections for the UK and Euro area from 2008 to date give consistently rose tinted outlooks that were missed missed missed. Germany is beginning to see the recession/ depression on her horizon.

    And now it looks like 2013 is going to be no different from what has gone before, just worse again.

    The reality is there is no recovery in sight. The stimulus packages can’t be turned off because the economy will die, and if we keep them going its already dead.

    So where will be in five years time? The projections must be pretty straight forward if one has a spreadsheet containing the past data?

    Will where 2005 = 100 be reflecting economic activity comparable to 1997?

    Current rates of growth in the cost of electricity, petrol, gas, loss of real wage value put the population back to 1979 levels? Homelessness, suicide rates?

    Will people be ripping out their central heating systems to sell for the scrap value of copper to put food on the table [can't afford the heating anyway]?

    the pressure on wages is going to be immense and with an economy set to crumble along the way its unlikely business’s will be able to meet this need.

    Its going to get mucky.

    It would be interesting to see this projection as a fantasy
    projection, at least you could report from your own lexicon of things
    being ‘on track’.

  • Anonymous

    Perhaps someone would correct me if I’m wrong, but I don’t think this would lead to negative rates for joe public – as Forbin pointed out, that could lead to a run on deposits, and banks are being told to hold more capital. I was under the impression that it was designed purely to discourage well-capitalised but risk-averse banks from holding reserves on deposit with the central bank, thereby twisting their arms into lending more and thus forcing newly printed money/QE/CB asset purchases out into the wider economy?

  • Anonymous

    I’d say the financial system is already badly messed up – the zombie banks should have the life support turned off. Either they are profitable businesses or they should be bankrupted and liquidated.

    Japan’s experience suggests keeping zombie banks on life support does not lead to recovery. Worse still, Japan has a trade surplus to keep it afloat and Britain does not.

    Britains own experience of nationalizing bankrupt car manufacturers (British Leyland) also seems to show that nationalizing the duff banks is not going to turn them into good businesses.

    And yes – the BOE is an asylum run by the lunatics.

  • Anonymous

    Crowdfunding and peer to peer lending are growth businesses in the UK. These businesses might prove disruptive for retail banks.

    And the 99% would benefit from a money processing utility along the lines of the national grid. This would stop banks charging 25 or 30 quid per failed direct debit etc. British retail banking seems like an anticompetitive ogliopolicy .

  • Midge

    I’m sure you are correct.

  • DaveS

    Is it not becoming clearer that this isn’t a problem of economics.

    Its not about fiscal or monetary policy.

    Its not about what your base rate is, or what your exchange rate is, or what your tax rates are, or what you do or don’t stimulate or even how much fiat money you print.

    We’ve dropped base rates, we’ve devalued, we’ve printed more than anybody would have believed, we’ve fiddled with tax rates, we’ve given cheap money to banks to try and stimulate lending – etc. etc. etc.

    None of it is working, because the West is to varying degrees, bust. The UK in particular is bankrupt. Our wealth was based on energy, engineering and innovation, Unless we have energy, commodities, goods or cheap labour to sell then we simply can’t pay our way in the world. Services doesn’t cut it – as the UK service economy has so clearly proved with its long standing trade deficit.

    We’ve been steadily losing all these advantages – this has been happening under our noses for 30+ years, but GDP voodoo economics and foreign debt persuaded us we were living in perpetual boom times. We weren’t we were living on borrowed money and borrowed time.

    For the UK, the only way out would be to transform itself into a major high end manufacturing nation on a par with Germany. But we have decimated our engineering industry – it would take a Churchillian effort to turn around that decline. It would take decades and in the meantime everybody else including 1 billion+ Chinese and 1 billion+ Indians will be trying to do the same.

    Does anybody seriously believe that Cameron, Milliband, Mervyn or his successor can achieve this ? It seems to me they are desperately trying to get back to the pre-crash halcyon days of excess consumption, booming house prices and seemingly limitless credit. Its all they know.

    All they are doing now is making most of us poorer – but critically there are a few that are getting richer,

  • Rods

    Hi DaveS,

    Our services current account is in surplus with our balance of payments looking positively ugly without them. Services encompasses a large range of industries, with financial services which is not only casino banking, but useful functions like hedging of fuel costs for airlines, electricity and gas for major users and raw material prices for food and engineering manufacturing. It also includes insurance underwriting which we are good at. Other services are the development of computer software, about 10% of the world’s computer games are still developed here, our courts and lawyers are being increasingly used to resolve disputes between companies and rich business people, design consultancies with a good example being ARM, whose processor designs power most of the worlds phones and tablet computers, TV programs, sport, the Premiership is a big foreign currency earner, music, architectural design and so on.

    Manufacturing does need to improve, but that will only happen if the country is a good place to manufacture in and there is a good component supplier infrastructure. When you have a production run for 10,000 left-handed widgets and you cannot get the special bolt made locally, it is a 3 month wait to get them from China, well why not make the widgets there for 25% of the price with the same delivery time? As our manufacturing dies out, without this supporting engineering infrastructure, local production makes no sense. Add into this increased energy costs, business rates, H&S compliance (much of which is unnecessary gold-plating), increasing social legislation, try running a production like around school hours etc, etc. So, unfortunately on most counts this is going in the wrong direction in the UK and the EU, so I don’t expect to see anything but it continuing to decline.

    Energy intensive manufacturing in beginning to ‘onshore’ in the US with over $30bn of investment happening just on the basis of cheap gas prices. Europe’s carbon trading, climate change high energy costs mean we will not be able to compete, the same applies to Japan and much of Asia.

    Countries thrive and fall on their politicians. Countries like South Korea, Singapore and Hong Kong have set the right conditions and boomed, those like Burma and North Korea haven’t. So the only way to improve manufacturing in this country is better politicians to make it attractive for companies to do so.

  • DaveS

    Hi Rods

    Totally agree – we are a global powerhouse in exportable services. Primarily financial services, but also law, architecture, insurance, education. London is world capital of services and continues to boom and the English language is one of our most valuable assets.

    That was my point – even with all that we still run a huge trade deficit and a huge current account deficit. This has to be financed by foreign borrowing – ultimately we cant print pounds to pay for oil. At least we will soon find out we can’t.

    Yes, the US is enjoying a mini energy boom from shale gas. Shale is a whole other discussion. If you want to believe the US will be the next Saudi Arabia and we have massive North Sea sized reserves under the Morecambe Bay then there is a reason to be optimistic. Surplus energy means wealth – no doubt about it.
    But I would encourage people to do their own research on the Shale hype.

    We need political leadership – but like its economy, UK politics is bankrupt.

  • Anonymous

    Hi JW
    On the QE front you find yourself on the opposite side to Adam “UK inflation will be 1.5% in the summer of 2012″ Posen who of course also told us QE was over in March, so probably a good place to be.
    Talking of people with bad track records I noted a few days back that Mr Stolper of Goldman Sachs (track record 9 out of 9 wrong) predicted that the Euro would go to 1.40 versus the US Dollar. He picked the top nearly perfectly….
    It seems that Jens Weidmann stopped the ECB on Thursday but as I said above with a weakening Germany then we will see.

  • Anonymous

    Hi Miles and welcome to my part of the blogosphere
    I see you have a few replies already but I wanted to reply to your first question. The Bank of England certainly thinks that the answer to this is yes and stated so in the MPC minutes. I think that they are overstating the problem but that there would be one.
    Ironically they and I are on the same side for once but for different reasons! I do not think negative interest rates would help the real economy via its effect on savers particularly whilst they fear (as ever) about the banks.

  • Anonymous

    “Well I’d have hope they thought this through”
    As famously said on Yes Prime Minister “Although an innovation it should certainly be tried”

  • mike

    Yes, ”London continues to boom”!

    The main problem in UK is that London has become all that matters in the minds of our rulers – the rest of the country clearly does not to matter.

    The fact is though nothing will improve economically nor socially until England/Britain gets an improved permanent share of the cake, as they did have when manufacturing/engineering was the mainstay. As things stand now, these service industries expand outside of London in boom times, then rapidly shrink back in normal/bad times.

    So, London is ‘alright Jack’ at all times, but the vacant offices and industrial buildings surrounding our other major cities (still of course paying full business rates to the Treasury) is a disaster for all concerned.

    Why in such times when cutting costs is paramount, would any business consolidate from a £15/sq ft AAA quality in say Manchester where labour is also 40% cheaper, and yes, English is the main language, to £90/sq ft in London of similar quality, confounds me.

  • Anonymous

    Hi Alex
    If you posing the implication that we are being deliberately misled then I agree. I do not think that there was a long-term plan to do that but as each year has disappointed the official view that the year+1 will be when we improve has now added up.
    For specific numbers I can answer for Greece because I looked them up on their release yesterday. If you compare the third quarter of 2012 with the same quarter of 2005 then it is 12.3% lower in real terms. She is on the verge of a “lost decade” right now…

  • Rods

    Totally agree. Our timezone also gives us a very big advantage as most of the industrialized world is within +/- 8 hours of London, so you can be talking to China and Japan first thing in the morning and California late in the afternoon.

    In recent times we have had three big disconnects in society. In the 1970s and 1980s union power, this was controlled in the UK by proper balloting of members before industrial action. Union power is a major problem in Europe. Boardroom pay, the accountability for this is improving, but there is still much more that needs to be done, to stop management in public companies profiting and getting bonuses and pay offs for failure, and finally by far the biggest political accountability. As the Luxembourg Prime Minister said on the Euro crisis: “We politicians know what we need to do to solve the crisis, what we don’t know is how to get reelected afterwards”. Personally, I would make them have performance related pay and bonuses and also make their pay dependent upon the them implementing their manifesto, so election lies hit them in the pocket. So if they performed like the last Government, they would lose all of their deferred bonuses and also their pensions. Without political accountability like this western democracy is doomed as the politicians that offer the people the most of other peoples money will generally get elected! We all know where this has lead us!

  • Rods

    The reason cities are successful is the synergy between like minded industries within a few miles of each other, which is why you tend to get clusters of industries near each other.

    I could solve the north v south wealth problem very easily. High speed 400mph magatron driver-less trains between London, Birmingham, Manchester, Liverpool, Newcastle and Edinburgh all of these cities would then be within commuting distance of London and they would be cheap to run, especially if the electricity was generated using thorium powered nuclear power stations. Our 19th century railed railways are noisy, high maintenance, expensive to run and speed limited to around 200mph. IMHO HS2 is a lack of vision, expensive, red-herring.

    We do not have the innovation and drive that we had during the industrial revolution, where the majority of our politicians and civil servants have no understanding of science and engineering, any real world experience, any vision or leadership qualities on where the country should be going and why beyond what today’s focus group tells them and sadly this is getting worse.

  • Anonymous

    Our politicians could run referendums like the Swiss do. That’s real voter power !

    However they prefer to obfuscate and avoid real democracy.