Welcome to Frankfurt, Christine Lagarde. A new job as head of the European Central Bank awaits. There are only so many supranational jobs on the political and economic circuit and you have nabbed a second one after seven years at the helm of the International Monetary Fund.
There is much work to be done, not least the task of rescuing a eurozone economy that has seen four years of steady growth across most parts of its 19-member currency bloc start to evaporate.
How the former French finance minister and corporate lawyer squares up to the challenge of boosting growth across such a large and disparate economy will be closely watched by the financial markets.
The question the market traders ask is a simple one that centres on the ECB boss’s attitude to interest rates and whether she will argue for the already low rates, ones that are so low they are negative, to be cut even further.
Following Lagarde’s nomination last week in a flurry of announcements concerning the top jobs in the EU, the expectation was that she would be in favour of cheaper borrowing when she takes over from Mario Draghi in November. This view quickly translated into higher stock market values and a marked downward shift in projected interest rates.
The broader economic difficulties confronting Lagarde are, in the minds of traders, easily solved. Just cut the interest rate or pump extra electronic money into the financial system via quantitative easing, which has the same effect, and confidence will return. With more money around to borrow cheaply, economies will spring back to life.
Easy money can help mitigate the costs of excessive government, corporate and household borrowing. And for that reason it shouldn’t be dismissed as a tool to support economic growth.
It is not the whole story, though. There are three major forces upsetting the economic apple cart at the moment. And all of them should tell Lagarde the job will turn sour.
The first comes courtesy of the disruption suffered by individual industries as a result of new technology. The second is the hit to global trade from Donald Trump’s tariffs. And third is the savings glut that can mostly be traced to baby boomers in the developed world, China’s middle class and the oil-rich states and which means there is more money sloshing around the international system than viable things to invest in.
If we examine these issues in order, it has become increasingly apparent that the shift to digital technologies since the early part of the century began to hollow out key blue- and white-collar industries.
This trend can be most clearly seen in the US, though its effects have also struck at the heart of the European jobs market. The disappearance of millions of administrative posts across the developed world alongside factory jobs facing increasing automation has depressed wages and reduced household spending power.
The 2008 banking crash came along to knock what stuffing there was out of the average worker, who has barely had the courage to ask for a pay rise since.
Trump’s tariffs were dismissed last year as a reason to be gloomy by economists who did the maths to calculate how much global trade would be affected – 1.5% at most. But as so often when discussing financial markets, economists who myopically stare at their models without understanding the outside world failed to factor in the chilling effect of even a minor trade war.
Exuberance and panic are the City trader’s watchwords and they are usually in one emotional state or the other. The promise of ever-lower borrowing costs has acted like a sugar rush for years now. Yet it’s not clear that cheap loans can continue to overcome falling Chinese and German manufacturing output, and weakening business and consumer confidence in Europe, even if the US keeps sailing along.
Then there is the savings glut. Part of the financial markets’ noticeable exuberance is based on the constant flood of pension and petro-dollar savings into the system. For the next 10 to 15 years, baby boomers will be squirrelling away vast sums for their retirements before almost all of them begin drawing on this mountain of money.
This surplus, which is increasingly invested in the bond market and offered as loans, is the main reason international finance is a borrower’s market and interest rates are kept low.
While boomers and Saudi sheikhs are trying to find a home for their funds, interest rates will stay low. It’s an iron law the US Federal Reserve tried to buck and is now being forced to backtrack on. US rates could start to come down as early as this month. Like the Fed, Lagarde cannot hope to overcome major economic trends with cheap money. It just won’t work.