A European QE Disconnect to Come?

I was going through a recent note from SocGen’s Patrick Legland and came across a nice visualization for potential problems from Japan’s QE program.  As I’ve mentioned before, Japan’s Yen strategy is inherently zero-sum.  That is, if the lower Yen boosts Japanese growth then it’s essentially stealing from someone else’s growth. We’ve seen this most clearly in Europe in recent years where the weak Euro has benefited Germany and not the periphery nations (who are all current account deficit nations).  So it’s interesting to note that the decline in the Yen is hurting…Germany!

This is interesting because of some of the recent calls for the ECB to copy the BOJ’s easing policy.  Of course, the Japanese are benefiting from the loss of trade in other nations.  So, once we all start engaging in a “race to the bottom” it would be irrational for stock prices to reflect this environment benefiting everyone involved.  And as we’ve seen in Europe, the stock markets do not reflect benefits for all as many peripheral nations are seeing stock indices near record lows.

Here’s more via SocGen:

Germany most impacted by yen decline

Germany’s latest PMI remains in contraction territory at 47.9, reflecting worries on business expectations. Looking at the global picture, since the introduction of the euro (2002), Germany has benefited from a weak euro to increase its exports, especially in the past few years (see figure 1). Indeed, according to the Bundesbank, one of the key factors which supported German exports in 2012 was the euro’s lower external value along with an attractive product range. But, with the change of the BoJ’s policy, the recent sharp fall of the yen (-25% within 6 months) could have a negative impact on German exporters (facing direct competition from Japan). It may offer an opportunity for the eurozone to relaunch cooperation and send the euro lower. But, the more urgent concern for eurozone leaders is to address financial fragmentation and structural rigidities in each country.

The BoJ may trace a new path for the eurozone

As mentioned by our economists, the current economic environment may force the ECB to adopt new
unconventional measures. But, as there are limits to what more the ECB can do alone, eurozone politics are facing a dilemma: either to continue the current austerity policy with a risk of 20 years of deflation (like Japan’s ‘lost’ decades) or to adjust policy in line with recent change of BoJ policy; the impact of which remains to be seen. Since Mr Abe’s election last November, Japanese equity markets reacted positively,
whereas eurozone markets are still waiting for a positive signal. The eurozone probably needs a similar shock – be it political, economic or monetary – for its equity markets to climb back to 2008 pre-crisis level. This shock would be necessary to restore confidence (like it did in Japan) and save the eurozone from further turmoil.” (see figure 2)


Source: Societe Generale


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Cullen Roche

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services. He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance and Understanding the Modern Monetary System.

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  • http://macronomy.blogspot.com/ Martin T

    “In a Pareto efficient economic allocation, no one can be made better off without making at least one individual worse off. Given an initial allocation of goods among a set of individuals, a change to a different allocation that makes at least one individual better off without making any other individual worse off is called a Pareto improvement.”

    In true Pareto efficient economic allocation, Emerging Markets equities have been simply the victims of currency wars and “Abenomics”.

    If you look at the worst performers this year among 46 companies in the MSCI World/Automobiles & Components Index, the most affected, in true Pareto efficient allocation process are the Europeans, sinking deeper in a secondary depression. While Bridgestone is laughing, tyre makers Michelin and Pirelli are crying.

    On top of that, the European automative market’s weakness continued in March and new car registrations were down 10.3% YoY following a 10.2% decline in February and 8.5% decline in January. It marks the 18th consecutive months of YoY decline. European car sales are sliding to a 20 year low. Not even Germany is immune to the deflationary trend given its auto market plunged by 17%.

    German automakers are starting to feel the heat from the Japanese strategy.



  • SS

    How do you think markets would respond to the Fed and the ECB copying the BOJ?

  • http://highgreely.com John Daschbach

    But economies seldom satisfy the required conditions for Pereto efficiency because it applies to a system with a fixed supply of resources. Since human productivity is a primary component of the resources involved in productivity at any moment the Pereto efficiency only applies closed systems between countries (any number) that are at full employment.

  • http://macronomy.blogspot.com/ Martin T

    “But economies seldom satisfy the required conditions for Pereto efficiency because it applies to a system with a fixed supply of resources.”

    Because we live in a world with infinite resources? Do we?

    We could also discuss power law, randomness and Gaussian distribution.

    Bridgeston is up by around 37% YTD / Pirelli is down by around 14%.
    Bridgestone, had 77 percent of its sales from abroad last year, and theu said in February profit would climb to a record high in 2013, even under the assumption the yen would average 89 per dollar.

    So is it seldom? Or random?

    Or the correlation doesn’t mean causation?

  • jaymaster

    Maybe I’m not looking at things correctly, but in my mind, Abe isn’t necessarily devaluing the yen in an attempt to increase exports. Rather, it’s another attempt to create inflation inside Japan, this time coming from the supply side.

    Because Japan relies so much on imports of raw materials, food, and energy, the weaker yen should cause costs of those materials to increase. The cost increases would then be passed along to internal consumers thru higher prices on the finished goods .

  • Dismayed

    It isn’t necessarily a zero sum game. Japan only cuts into other countries growth if the other countries don’t have the foresight to increase their own government deficits.

  • http://orcamgroup.com Cullen Roche

    Sectoral balances 101. Pretty sure I am up to snuff on that one, Bob. :-0

  • Adam P.

    The next step in the euro crisis will send euro/yen back to 100. There is nothing stable, nothing is here to last.

  • Andrew P

    Increasing consumer prices by devaluing the currency seems like a losing strategy unless there is more than enough export growth to compensate the squeezed consumers. Price squeezed consumers are unlikely to reelect you unless jobs and wages increase.