Germancourts,ECBandOilpricerise

Yesterday we had written how a dose of ample caution is required while deciding on the possible trajectory of economies amidst reopening. We had noted in a statistically smitten language that the road ahead can be leptokurtic. One of the red flags waived was the legal challenge which the stimulus measures can encounter en route, an example of which was German courts deciding on the ECB stimulus.

Constitutional Courts in Germany in a ruling yesterday said that the ECB’s plan to flood the system with cheap credit runs foul with German law. The ruling stated that the German Central Bank should stop cooperating with ECB’s stimulus scheme within the next three months unless the ECB could prove that the stimulus was not excessive. The program in question is the one which started in 2015 and entails the ECB buying government bonds, especially the public sector bonds. Courts opined that this is same as direct government financing which is not allowed in the ECB mandate. As of now, the legality of the current Euro 750 bn virus relief package PEPP was not discussed. The Euro, which was trading around 1.092, fell 70 pips as the news came in.

Though the decision changes little for the current relief package it definitely curtails the ECB’s future actions to support various business segments and puts it in a disadvantage vis a vis other central banks like the Fed, BOE and BOJ. We have written previously that the Eurozone is a peculiar case where the fiscal and monetary decision making powers have been socially distanced in a true sense. In return the countries get a continent sized area as a trading zone with unrestricted movement of labour and goods. In such a set up, the countries with a richer industrial base get twin benefits; one is cheap labour and the second is unfettered market access for goods. Poorer countries in turn get cheaper financing as the financial institutions across the continent can invest in the country’s Euro denominated debt without a currency risk.

In the good times when the growth is plenty, nobody minds the inherent unfairness of the trade-off. But crisis beckons whenever growth peters down. The EZ Debt crisis was one such existential crisis which occurred at the start of the decade when everyone suddenly realized that many European countries have taken debt far beyond sustainable limits. It was resolved over a period of time with austerity measures and government reforms. The individual countries at that time realized the perils of not borrowing in a currency which they can’t print.

This brings us to the important point relevant for the current crisis times. The US, UK and Japan are trying to resolve the crisis through major stimulus programs by expanding the balance sheets of the central banks. European countries which have been hit by the virus, on the other hand, depend on the ECB’s discretion for the relief.

In the market roundup, the US equity markets ended slightly in the green. Indian markets are also up by close to 1%. INR trades around 75.70 levels. 10 year benchmark Indian government bonds trade at 6.07. The excise hiked on the petrol announced yesterday will surely support the prices in the short term.

The most noticeable movement was in oil where both Brent and WTI showed major gains. The expectation that the lifting of lockdown will bring back the oil demand is now supporting the oil trade. On the supply side the fact that oil wells have been closing also supports the oil prices. President Trump also tweeted yesterday that “oil prices have been going up nicely”. We are not sure that this is endorsement of some high price levels and what those levels could be.