Christian Noyer, a governor of the Central Bank of France (in an interview with Handelsblatt): “We are currently observing a failure of the transmission mechanism of monetary policy. From the markets’ perspective, the interest rate facing individual private banks depends on the funding costs of the state where they are domiciled and not on the ECB overnight interest rate… Hence the monetary policy transmission mechanism does not work.”Surprisingly, this quote may have slipped through the cracks if not for the watchful eye of Yanis Varoufakis. Based on comments from Noyer and results of recent ECB actions, Varoufakis concludes:
In summary, borrowing costs in the Eurozone have lost their two anchors: the inter-bank lending rate (courtesy of the sad reality that the banks no longer lend one another) and the overnight ECB interest rate (which banks ignore when lending). The key to understanding this breakdown is governor Noyer’s phrase “the interest rate facing individual private banks depends on the funding costs of the state where they are domiciled and not on the ECB overnight interest rate”. In short, the fear of a disintegration of the Eurozone (that is aided and abetted by silly talk of Greece’s and Portugal’s expulsion) has broken the umbilical cord that normally connects the ECB’s overnight rate with actual borrowing costs of the private sector. Now, the later reflect the fear that the member-state in which the firm or the household are will not be able to refinance itself. In a never-ending circle this fear ensures that the said member-state will not be able to refinance itself and, crucially, guarantees the ECB’s failure to lower interest rates even when it pushes its official rates to zero. This is what a monetary union on the verge of collapse looks like.Despite the continued patches of optimism over a European solution, economic growth continues to slow throughout the Eurozone. Without growth, efforts to reduce sovereign debt will only slow the rise, not reverse the trend. Since the transmission mechanism by which monetary policy is supposed to work has failed, fiscal policy remains the only real option. Sadly, at the moment, fiscal policy is generally moving in the wrong direction and a fiscal union remains a distant dream. My outlook is therefore similar to that of Varoufakis, the monetary union is nearing its end.