The European Central Bank (ECB) could be the biggest loser in the global market turmoil caused by fears of a slowdown in the Chinese economy.
More than $1 trillion was wiped off the value of shares around the world on Monday as stock markets saw their heaviest losses since October 2008.
The decision by China’s central bank to cut the country’s main interest rate prompted a partial rebound yesterday, although the recovery was felt mostly in safe haven assets.
The euro has risen against the dollar and most major currencies over the past two days as it is now considered to be one such safe haven. This is a marked reversal after the past six months, when fears that Greece could be expelled from the eurozone cast doubt on the future of the single currency.
The eurozone economy has grown over the past six months, boosted by the ECB’s €1.1 trillion quantitative easing (QE) programme, which has pumped a huge amount of liquidity into the 19-country bloc through the purchase of €60 billion of sovereign and corporate debt each month.
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Immediately following the ECB’s announcement of its QE programme in March, the value of the euro plummeted against all major currencies. It looked as if it was on course to reach parity with the dollar in June. The weaker euro helped eurozone exporters and fuelled inflation by making imports more expensive.
Low inflation across the eurozone during 2014 threatened to turn into a deflationary spiral, which would have made the region’s debt problems unsustainable.
Over the past two days the euro has climbed in value to €1.17 against the dollar. At a stroke, the cost of eurozone goods has increased and inflationary pressures have eased.
The benefits delivered by the ECB’s QE programme have been reversed.
The eurozone economy is very fragile. The impact of another slowdown could be profound, as political opposition to the euro increases in many countries, particularly France, the Netherlands and Finland.
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The weaker euro has helped Ireland’s export-driven economy. The pace of growth will decelerate if the euro continues to strengthen against the dollar and other currencies over the next few months.
The ECB’s QE programme masked more deep-rooted problems. There has been lamentable progress in opening up the single market, particularly in services. Other reforms, including a common fiscal policy and debt-sharing mechanisms for eurozone member states, are also needed.
As a result of events in China, politicians across Europe may have to face up to some tough decisions sooner than they expected.