Szenarien für den Weg zurück zur Normalität

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1 Forschungszentrum für Sparkassenentwicklung, Universität Magdeburg Magdeburg, 22. Juni 217 Magdeburger Finanzmarktdialog Nullzinsen Schicksal ohne Ausweg? Szenarien für den Weg zurück zur Normalität Prof. Dr. Stefan Kooths Prognosezentrum 1

2 NiGEM simulation ECB monetary policy policy rate (MRO) Baseline Scenario 2 Percent 1,8 1,6 1,4 1,2 1,8 Scenario» End-217: QE phases out» Mid-218: Interest rate normalization sets in Expectations» Adaptive (ExpA)» Rational (ExpR),6,4,2 I II III IV I II III IV I II III IV I II III IV Fiscal solvency rule» On (SRon)» Off (SRoff) Quarterly data; Interest rate on the main refinancing operations (MROs) set by the ECB; baseline: NiGEM-forecast. 2

3 NiGEM: Expectations drive results Deviation from baseline. GDP growth differentials in percentage points. Germany France,6 Percentage points,6 Percentage points,4,4,2,2,, -,2 -,2 -,4 -,4 -,6 -,6 -,8-1, -1,2 ExpR_SRon ExpA_SRon ExpR_SRoff ExpA_SRoff ,8-1, -1, Spain Italy,6 Percentage points,6 Percentage points,4,4,2,2,, -,2 -,2 -,4 -,4 -,6 -,6 -,8 -,8-1, -1, -1, ,

4 Non-cyclical hot spots Production structures» Capital stock distortion, zombification Potential output Financial stability» Maturity transformation, revaluation of assets Equity position of banking sector Fiscal sustainability» Public debt positions, risk premia Required structural primary budget balances (consolidation) Simulation complexity: extreme very high high 4

5 Non-cyclical hot spots Production structures» Capital stock distortion, zombification Potential output Financial stability» Maturity transformation, revaluation of assets Equity position of banking sector Fiscal sustainability» Public debt positions, risk premia Required structural primary budget balances (consolidation) 5

6 Interest, capital, and production structures Interest rates just another instrument for macro-management? or the key price relation within the market system?» Time preference» Coordinating savings and investment» Component of all prices for goods and services (relative prices)» Impact on capital/production structure Capital gives money time to cause trouble. (Garrison) 6

7 Primary production factors (labor and natural resources) Consumable output (first-order goods) Production: A time consuming, multi-stage process Late stages (lower-order goods) Early stages (higher-order goods) t-6 Q7 t-5 Q6 t-4 Q5 t-3 Q4 t-2 Q3 t-1 Q2 t QC Production Value imputation Capital stock as a structure Capital formation: intertemporal intermediate consumption 7

8 Coordinating saving and investment Saving» Saving up for something: Future demand, not a leakage» Derived-demand and discount effect derived-demand effect dominates M*V = P*(QC + Q2 + Q3 + Q4 + Q5 + Q6 + Q7) discount effect dominates Investment: Stage pattern matters (not volume alone) Entrepreneurial challenge: bringing capital structure in line with pure time preference (intertemporal arbitrage) 8

9 Two types of mal-investments Idiosyncratic: Entrepreneurial ventures» Wrong expectations of one market participant» Happens every day, no systemic risk» Liquidation, reallocation of resources Pervasive: Expansionary monetary policy» Systematically wrong expectations of all market participants» Financial crisis (debt crisis = flip-side of heavy capital stock distortion) Fragile financial system Excess debt positions destabilize monetary system 9

10 Three options of coping with debt-crises Public bail-outs» Shifts private debt to public sector» Private debt crisis sovereign debt crisis» No solution for fiscally distressed countries Inflating the debt away» Takes a long time, promotes zombification» Puts the currency at risk» Not targeted towards non-performing loans Liquidation» Tough (cold turkey) in the short-run» but targeted (and root cause oriented)» Puts capital at second (now first) best use Anti-capitalist approach (harms principle of accountability, creates moral hazard risks) Capitalist approach (in line with free market principles) 1

11 Flip-side of not liquidating (= buying time ): High debt positions hamper credit channel Gross Private Sector Debt Protugal Italy Spain Greece Ireland Non-Performing Loans Portugal Italy Spain Greece Ireland 35 Percent 4 Percent Annual Data. In relation to nominal GDP. Annual data. Share of total loans. Data source: Bank for International Settlements, World Bank. 11

13 Legacy: High gross public sector debt Gross Government Debt Germany France Italy Spain EMU Percent EMU» Crisis-induced elevated levels» Increase by 25 percentage point Critical» France, Spain: 1 percent» Italy, Portugal: 13 percent Annual Data. In relation to nominal GDP; EMU: Average. 13

14 Status quo: Low refinancing cost due to ECB policy Government Bond Yields (1-year) Germany France Italy Spain EMU Rechnerischer Effective refinancing Rechnerischer Durchschittszins cost Durchschnittszins on outstanding debt 5 Percent Prozent 8 Percent Monthly data. EMU: Averrage. DEU FRA ITA ESP POR 14

15 Government debt: France Outstanding government bonds: France Short-term share: 1.5% 13% 12% 11% 1% 9% Percent Share of maturing bonds (ex short-term) Average yield of maturing bonds Bond structure (ex short-term) Ø term: 14.5 years Ø maturity: 7.5 years 8% 7% 6% 5% Gross debt to GDP: 96% Interest burden to GDP: 1.9% 4% 3% Ø yield: 1.95% 2% 1% % 15

16 Government debt: Italy Outstanding government bonds: Italy Short-term share: 8.2% 13% 12% 11% 1% 9% Percent Share of maturing bonds (ex short-term) Average yield of maturing bonds Bond structure (ex short-term) Ø term: 12.1 years Ø maturity: 6.4 years 8% 7% 6% 5% Gross debt to GDP: 131% Interest burden to GDP: 3.9% 4% 3% Ø yield: 2.9% 2% 1% % 16

17 Government debt: Spain Outstanding government bonds: Spain Short-term share: 8.7% 13% 12% 11% 1% 9% Percent Share of maturing bonds (ex short-term) Average yield of maturing bonds Bond structure (ex short-term) : Ø term: 9.6 Jahre Ø maturity: 5.8 Jahre 8% 7% 6% 5% Gross debt to GDP: 99.4% Interest burden to GDP: 2.8% 4% 3% Ø yield: 2.8% 2% 1% % 17

18 Government debt: Portugal Outstanding government bonds: Portugal 13% Percent Share of maturing bonds (ex short-term) Average yield of maturing bonds 12% 11% 1% 9% 8% 7% 6% 5% 4% 3% 2% Short-term share: 12.4% Bond structure (ex short-term) : Ø term: 11.9 Jahre Ø maturity: 7.2 Jahre (incl. rescue loans): 9.6 Jahre Gross debt to GDP: 13% Interest burden: 4.2% Ø yield: 3.2% 1% % 18

19 The monetary normal : Inflation HVPI: Euro area Percent HVPI Inflation 1 Ø - Inflation (HVPI): 2.5% Montly data, yoy-change. 19

20 The monetary normal : Short-term interest rates Short-term interest rates: Euro area Prozent EONIA EURIBOR 3m 1y Bund 1 Ø - EONIA: 3.1% Ø - Euribor 3m: 3.21% Ø - Bund 1y: 3.24% ,4% Monthly data. 2

21 The monetary normal : Term spreads Yield curve: Germany 6 Percemt BD 3y BD 1y BD 5y BD 1y 1 Ø - spread 3y - 1y: 1.6% Ø - spread 1y - 1y: 1.1% Ø - spread 5y - 1y:.6% ,3% 1,1% 1,8% Monthly data. 21

22 Exit scenario: Risk-free interest rates Inflation» Back to 2% target until 22 Euribor» Converging from -.35% back to precrisis average of 3.2% until 223» Bund-1y spread wanes Yield curve Interest rates and spreads Prozent 5 4 3,6% 1,1% 1,6%» Back to pre-crisis average 2 BD 3y BD 1y BD 5y 1 BD 1y Euribor 3m

23 Risk premia Back to pre-crisis levels is unlikely Difficult to estimate» Structural breaks (ESM, OMT, QE, )» Political events (e.g. elections) 1y government bond yields Prozent BD 1y FR 1y IT 1y ES 1y PT 1y Monathly data. 23

24 Exit scenarios: Risk premia Scenario 1: Constant spreads Scenario 2: Doubled spreads 11 Percent BD 1y 11 Percent 1 FR 1y IT 1y 1 9 ES 1y 9 8 PT 1y BD 1y 3 FR 1y IT 1y 2 ES 1y 1 PT 1y

25 Scenario: Term structure Term structure of outstandind government bonds Percent 55% 5% 1% of gross debt» Short-term (1y) Budget impact within one year 45% 4% 35% 3% 25% 2% FR IT ES PT Model Rest (refinancing and deficits)» 4% 5y» 55% 1y» 5% 3y Lagged budget impact 15% 1% 5% % 1 y 3y 5y 1y 15y 3y 5y 25

26 Exit scenario: Other assumptions 217/218: IfW country forecast 219 ff (for all countries)» GDP-Deflator: 2%» GDP growth: 1.5%» Fiscal deficit: 2.5% (of nominal GDP) Gradually decreasing debt-to- GDP ratios (without impact on spreads) Government Debt-to-GDP ratio Percent FR IT ES PT Annual data. 26

27 Results: Fiscal interest burden (impact of legacy debt, term spreads, risk premia) Interest burden: Scenario 1 Interest burden: Scenario 2 9 Percent 9 Percent 8 FR IT ES PT 8 FR IT ES PT +3.8 ppt ppt +1.7 ppt +1.9 ppt ppt +2.8 ppt +2.3 ppt ppt Annual data. In relation to nominal GDP Annual data. In relation to nominal GDP. 27

28 Results: Debt-stabilizing primary fiscal surplus Debt-to-GDP ratio 217 Effective yield 217 Primary surplus 217 Debt-to-GDP ratio 23 France 96, 1,9-1,2 89,3 Italy 132, 2,9 1,7 111,5 Spain 99,5 2,8 -,6 9,6 Portugal 128, 3,2 3, 17,6 Scenario 1: Constant spreads Effective yield 23 Required primary surplus 23 Scenario 2: Doubled spreads Effective yield 23 Required primary surplus 23 France 4,2,6 4,6 1, Italy 5,5 2,2 6,9 3,8 Spain 5, 1,4 5,9 2,2 Portugal 5,5 2,2 7,2 4, 28

30 Global QE/ZIRP Monetary Base US Fed BoE BoJ ECB Monetary policy rates US Fed BoE BoJ ECB 12 Index (25=1) 7 Percent Quarterly data. Monthly data. 3

31 ZIRP/QE: Compressed yield curve Euro area government yield curve 6 Par yield in percent (until 9 June) 4 2 Maturity in years -2,25,

32 More aggressive maturity transformation (1/2) New loans by maturity, NFC New loans by maturity, house purchases 1% >1y 5-1y 3-5y 1-3y 3m-1y -3m or floating 1% >1y 5-1y 1-5y -1y or floating 95% 9% 9% 8% 85% 7% 8% 6% 75% 5% 7% 4% 65% 3% 6% 2% 55% 1% 5% '11 '12 '13 '14 '15 '16 '17 Monthly data, shares of new loans by maturity. % Monthly data, shares of new loans by maturity. 32

33 More aggressive maturity transformation (2/2) Government bond duration Variable rate loan shares 8 Years 9 Percent to households and NFC to households for house purchase 7, , , Monthly data, Citi WGBI EMU duration Monthly data, shares of new loans. 33

34 Banking sector fragility to interest rate reversal Devaluation of fixed income assets» Trading book (marked to market)» Banking book (marked to historic cost) Lower net interest income due to maturity transformation» Loans vs. deposits (+ bonds)» Depends on degree of MT and spread (squeezed by ZLB?)» 57 percent of all net income of euro area banks (F: 47%, ES: 67%) Debt securities - maturity transformation Government bond avg duration Years Bank bond avg maturity 8 7,5 7 6,5 6 5,5 5 4,5 4 3, Euro Area, monthly data. 34

35 Euro area MFI balance sheet Euro Area MFI ex Eurosystem Aggregated Balance Sheet in bn Euro outstanding, April 217 Net interest income analysis Assets Loans to EA residents Holdings of debt securities issued by EA residents Liabilities Total 18177,2 Capital & reserves 2498,2 General gov 163,8 Deposits of EA Total 17475,9 Other EA residents 1859,5 residents Central gov 14,4 MFIs 6253,8 Other gen gov & 11915,7 Total 48,9 MFIs 5419,8 General gov 1658,2 MMF shares 576,9 Other EA residents 1212,3 Debt securities 3648,8 MFIs 1138,4 External liabilities 493,1 MMF shares 56 Remaining 3317,7 Holdings of equity 1196,3 External assets 4573,8 Fixed assets 193,1 Remaining Assets 345,5 Total 3161,7 Total 3161,7 (Equity < 9%) Revaluation analysis 35

36 Revaluation: Worst case scenario All bonds held by commercial banks marked-to-market Maturity» Government bonds: 7.5 years» Corporate bonds: 15 years Yield-curve shift Devaluation loss (bonds) Equity erosion 1% ppt 8% 1% 2% ppt 16% 18% 36

37 Net interest income: Scenarios Risk assessment approach» Following ESRB (216) + own assumptions» ECB: Interest Rate Risk in the Banking Book (announced for 217-H2) Scenarios» Back-to-Normal (BtN): Interest rate reversal to levels of 2-26» Low-for-Long (LfL): Interest rate remain ad subdued levels Long-term interest rate Short-term interest rate Term spread LfL 1,4%,% 1,4 BtN 3,2% 1,7% 1,5 LfL 1,2%,% 1,2 BtN 5,1% 3,2% 1,9 37

38 NNI: Back-to-Normal scenario Net Interest Income - Back to Normal Italy Euro Area France Germany Spain 216=1% 1,4 1,2 1,8,6 Medium-term» Maturity transformation dominates» Euro area banks lose one third of their NNI until 22 Long-term» Benefits from higher term spreads Country-specific results» Italy: high share of loans with variable interest rates, euro area wide interest rate smoothing,4, Yearly data. 38

39 NNI: Low-for-Long scenario Net Interest Income - Low for Long Italy Euro Area France Germany Spain 216=1% 1,2 1 Interest margins keep falling NII (euro area)» Minus 2 percent until 22» Minus 33 percent until 225,8,6,4, Yearly data. 39

40 NNI: Scenario comparison Net Interest Income - BtN minus LfL Italy Euro Area France Germany Spain in percent of 216 NII,4,3,2,1 -,1 Medium-term» BtN hurts more» Differential NII effect: Minus 15 percent Longer-term» LfL hurts more» BtN-NNI 16 prozent higher by 225 (relative to LfL) -,2 -,3 -, Yearly data. 4

41 Radical monetary strategy: Regime change instead of policy renormalization Buying risks upfront instead of lowering risk free yields» More private sector securities» Distortion of risk premia and related cost of capital Targeting non-performing assets» Monetary bail-out» Turning the Eurosystem into a bad bank Helicopter money» Bypassing the credit channel to inflate the debt-overhang away» Transforms the Eurosystem into a pure fiat money system Hardly in line with ECB s mandate, radical consequences Chicago plan 2. requires credible post-resolution design 41

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