A worrisome year ahead for the Eurozone
December 31, 2014, 7:10 am

When it meets in late January 2015, the European Central Bank could announce stimulus packages to deal with a series of economic and political crises threatening the Eurozone [Xinhua]

Although the board of policymakers will not meet until January 22, financial and political variables that came to the fore at the end of 2014 will define how the ECB tackles the pressing issue of quantitative easing.

The greatest challenge remains deflation, which at 0.3 per cent threatens growth in the 18-nation Eurozone.

Falling global oil prices – Brent crude fell to $57 a barrel this week, a 40 per cent drop since June 2014 – threaten to push deflation even further in 2015.

First off, production and transportation prices of foodstuffs, for example, fall proportionally with declining oil prices.

The ability to pay wages weakens as does the ability to pay loans and other debts.

Asset valuation, such as in the real estate sector, decreases and investors (as, too, prospective buyers will likely curb spending) are discouraged from pouring money into industry or the stock markets because deflation signals lower-than-normal returns.

If oil prices remain below $60 a barrel for the next year, normally robust economies such as the UK and Switzerland, in addition to France and Italy, will likely face deflation of their own, some analysts have warned.

Crisis in Greece … again

A renewed political crisis stemming from the Greek Prime Minister’s failed third attempt on Monday to get his choice of president approved by parliament also threatens to plunge the Eurozone further into financial dire straits.

Parliament will now have to be dissolved, according to the Greek constitution, and snap elections will have to be called – likely before the end of January 2015.

The whole political crisis puts in the balance ECB bailout packages for the Greek financial system, which in 2009 nearly fell apart on defaulted loans and threatened the Euro currency itself.

The Greek economy began to unravel in 2009 when the government announced it could not meet its huge debt due to massive overspending.

Its budget deficit began to surge shortly after government financed the 2004 Athens Olympics.

The debt crisis was further exacerbated when the global economic crisis hit and the government feared defaulting on its loans. It had no choice but to seek help from the EU and the IMF.

Although the EU and IMF agreed to a total of over $300 billion in bailout loans, they demanded that the Greek government take severe measures to cut spending.

Athens agreed but this measure was met with millions of Greeks taking to the streets in protest sometimes with violence reported between demonstrators and police.

Greece’s economy has been in recession since the global economic crisis hit. However, if it is unable to show growth in the next two years, it is likely Athens will be unable to pay any debt to its foreign lenders, ultimately forcing it to leave the Eurozone.

For the past two years, Greece’s parliament has authorized austerity measures including increased income tax on middle and high-income earners, self-employed and businesses, and also the cutting of a slew of benefits.

It is unknown at this point whether a new parliament will agree to use Greek assets as collateral, as agreed with the ECB since the crisis.

ECB harmony?

Rifts within the Central Bank are also threatening consensus on stimulus programs as early as the first quarter of 2015.

Ewald Nowotny, Austrian Central Bank chief, and German Central Bank President Jens Weidmann appear to be leading a group within the ECB which believes that no quantitative easing is needed in the Eurozone at this time.

Both financial heavyweights have echoed previous calls that more time be allowed for current corrective measures launched by the ECB before other initiatives are considered.

They also minimized the effect that the current low inflation rate would have on European markets.

In a bid to increase liquidity (monetary supply) and promote lending – in particular when interest rates near rock-bottom levels but fail to revitalize the economy – Central Banks can resort to quantitative easing by flooding financial institutions with capital.

In 2009, the US Federal Reserve launched an $85-billion bond-buyback program to generate stimulus in the economy following the sub-prime mortgage crisis which led the world into recession.

But with the US economy appearing to have regained its pre-2008 strength, the Fed ended the bond-buyback scheme last month.

In November, the ECB voted to keep interest rates at 0.05 per cent and maintain current deposit rates to below zero at -0.2 per cent.

This would mean that banks that hold money overnight at the central bank would have to pay for the service; it would be in their benefit to encourage lending.

As European markets head into the new year, analysts will be looking to see if ECB policymakers will announce a much-awaited new stimulus program on January 22.

The BRICS POST with inputs from Agencies