President Biden and Olaf Scholz, the new German Chancellor, are not on the same page regarding Nordstream 2. Biden threatens that no natural gas will flow through the pipeline if Russia invades Ukraine. But for Germany, Moscow is much closer and Scholz will realise that 40 percent of all natural gas in Europe comes from Russia.
Unlike the Netherlands, Germany is actually switching to natural gas, away from lignite and oil boilers. Meanwhile in Moscow, Macron is trying to de-escalate the issue, if only for the upcoming French elections.
Interest rates up
In March, while all eyes are on Russia and Ukraine, the danger to Europe comes from another quarter. Lagarde has indicated that she too no longer sees inflation as a temporary phenomenon. There is even talk of raising interest rates this year. To make such a thing possible, the purchase programme will first have to be stopped.
This is why interest rates are now rising in Europe. Rising interest rates in themselves are not the problem. In Europe, the problem is mainly the divergence in interest rates between the different countries in the eurozone. The ECB’s buy-back policy implicitly ensures that interest rates in Europe do not diverge too much.
This is not an official policy, it is simply the result of Draghi’s “whatever it takes” speech in 2012. At the time, it was the only way to defuse the European debt crisis. A central banker simply has an unlimited arsenal.
PIIGS back in focus
When the market is convinced that this unlimited arsenal will be used, the market does the work for the central bank. At a time when interest rates need to be lowered and the economy stimulated, implicit policy - such as Draghi’s promise - and actual policy are aligned.
But now that Lagarde is steering monetary policy in the opposite direction, frictions between actual policy and the earlier promise are emerging. It is a good time for the market to test this promise. The differences between German interest rates and the weaker eurozone brethren are widening. The PIIGS are back.
The only thing that has improved in Italy since 2012 is the fact that Mario Draghi has become Prime Minister of Italy. Italy’s public debt as a percentage of GDP has risen from 120 percent to 160 percent during the last ten years, with no improvement in the growth potential of the Italian economy. In Greece, debt is now over 200 percent of GDP. France is now where Italy was in 2012 and appears to be just one recession away from Italian conditions.
Draghi’s promise at stake
The ECB is in a position to bail out if the market spikes, but it remains to be seen whether the EU’s northern member states would be comfortable with such a move. The problem in 2012 was a collective European problem where high debts led to cross-collateralisation to European banks resulting in weak economic growth.
The problem of inflation cannot be solved with lower interest rates - except in Turkey - and bond buying. With the looming prospect of rate hikes by the ECB, Draghi’s promise is at stake.
Han Dieperink is Chief Investment Strategist at Auréus Asset Management. Earlier in his career, he was Chief Investment Officer of Rabobank and Schretlen & Co. Dieperink provides his analysis and commentary on economics and markets. His column on Investment Officer Luxembourg appears on Thursdays.