“With the recently announced targeted longer term financing operations (TLTROs), the ECB wants to encourage more lending to corporates, especially in the periphery. The hope is that banks will use the new, cheaper funding to increase lending to small- and medium-sized enterprises (SMEs). However, there is nothing explicit in the conditions that will prevent banks from using the funds to buy sovereign bonds. Banks are not eager to expand lending in the current macroeconomic environment.
We expect TLTRO’s impact on the real economy to be limited and the ECB to take additional measures at a later stage, including significant quantitative easing. One problem is that TLTRO will not completely offset the decline in liquidity resulting from the maturation of the old LTRO. European banks, mostly Italian and Spanish, need to repay around €500bn of the old LTRO borrowings by February 2015.
The latest ECB announcement is not a panacea. Rate cuts should help to anchor euro rates at a low level as the Federal Reserve and the Bank of England move closer toward implementing interest rate rises. But the healing of the eurozone economy will take time and it remains in a vulnerable state. Japan has showed how difficult it can be to escape the virtuous circle of low growth, low inflation and high debt.”