ECB is violating its mandate by sponsoring large corporations

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How the ECB is violating its mandate by sponsoring large corporations

Thomas Globes

https://www.ftm.nl/artikelen/ecb-overtreedt-mandaat-door-grote-bedrijven-te-sponsoren

 

Each month the European Central Bank buys 8 billion in corporate bonds. Thus it provides some of the largest companies in Europe cheap loans. This money would have to come into the real economy justified, but in practice, little of it here. Moreover, the European SMEs are put in an improper manner at a disadvantage. Is that allowed?

Shell, Volkswagen, Louis Vuitton Moet Hennessy (LVMH) - not exactly business that you would expect to need aid. Yet these are representative names on the long list of big companies that benefit from the so-called corporate sector purchase program (CSPP) of the European Central Bank (ECB). The CSPP is part of the larger buy-back program that runs the ECB, in his own words, to bring inflation towards 2 percent and thus stimulate the economy. In my previous article I gave an overview of the entire program. Today we take a deep dive into the part of corporate debt buys.

The ECB acts still in line with the foundation of the European Community?

270 million per day

Daily flow enormous sums from Europe towards the business community. Since June 8, 2016, the ECB buys loans from large companies worth 8 billion per month. Digital money for these purchases, the ECB can create out of nothing. A special power, that you may hope that is handled with care, in the service of us all. Yet 10 percent of the total buyback budget of the ECB (EUR 80 billion per month) do not lend to governments or nonprofit organizations, but to large companies for profit. In other words, the central bank creates a mere 270 million per day to buy selectively debt securities of specific companies within the CSPP. The ECB acts thus still in line with the foundation of the European Community , namely the principle of an open market economy with free competition?

Only large multinationals

The companies eligible for the CSPP must meet a number of requirements to meet. Only in euro traded debt of non-banking companies with a certain credit rating (investment grade they call it) can be bought. The companies must be based in Europe, but do not necessarily have to come from here: Coca-Cola is for instance also on the list . Companies that are large enough to settle all over the world and also write loans in euros, basically meet the automatic criteria. It will be no surprise that especially large multinationals may use the cheap loans. Of all European companies in the top 25 of the Fortune 500 , the ECB has already bought bonds, and also the most frequent ECB purchases can be found on the list of world's largest companies.

SMEs more expensive

Small and medium enterprises (SMEs) is at the CSPP the wayside. SMEs do not borrow through bonds, for the issue of which is a complicated process that requires financial expertise. The large corporates tend to have their own banking department to handle bond issues, while the average for an SME loan must knock at the bank. Of course a commercial bank that tries to pick up a nice margin. According to a report by the Authority Consumer & Market (ACM) SMEs always pay more for a loan than large companies, both in the form of a higher interest rate because of the high closing fees. Lending to small businesses is riskier than large companies, but the higher interest rates on the other hand the result of the worse bargaining position of SMEs and operating costs by calculating the bank. So it costs more anyway to finance small business entrepreneur in the corporate world, and with the CSPP ECB strengthen existing inequalities.

negative returns

The ECB shall not provide funds for SME loans, but buy both new loans from large firms as debt securities (bonds) that already exist and are traded on the market. Just thanks to the announcement of the CSPP investors anticipated an increasing demand for corporate bonds and the rates went up. Bond prices and interest rates move in opposite directions. The yield (also called yield) of a number of short-term bonds from companies such as Shell, Siemens and LVMH has therefore become even negative. That means that you as buyer of this debt a lower amount effective after paying back will get you inlaid with purchase!

The CSPP ECB strengthen existing inequalities

For the return of long-term debt securities - such as our pension - this is not cheap, but professional traders do brisk business thanks to price increases. According Robeco benefit its Investment Grade Corporate Bond Fund directly from the ECB purchases. The impressive gains of the past year they close, with all modesty, not only to their own excellent performance, but largely due to the 'game changing volumes "that the ECB affect the market. The CSPP is for investors and fund managers, such as Robeco, very advantageous: the value of their portfolios increases and the "outstanding performance" are rewarded with large bonuses.
The treasurers of large companies rubbing their hands: they can close all new loans at very low interest rates. To put this in perspective, according to the Dutch Central Bank pays SMEs for a loan under 250,000 euros between 3 and 5 percent interest (depending on the maturity) and on top of that there are the high banking costs. Shell took to be repaid in August 1.25 billion that only about 9 years, and over pays an interest rate of only 0.375% per annum. The ECB was one of the buyers of this debt.

"The treasurers of large companies rubbing their hands: they can close all new loans at very low interest rates"

Real economy?

The CSPP is born from the idea that the cheap money through companies faster in the real economy than enters through the public sector. The ECB has therefore decided to broaden its buyback program, which initially covered only government bonds to the private sector. The money is "put through to the real economy," according to ECB President Mario Draghi as companies invest the cheap money in productive activities. Shell, for example as an additional drilling rig pulls up in the North Sea creates additional economic activity and that is good for employment.

namely access to cheap money does not attractive investments still on

But is this logic is? namely access to cheap money does not attractive investments still. This requires confidence in the economy and good ideas for new business much more important. A company does not invest in a new plant without the confidence that the investment is recouped. As well as commercial enterprises can borrow money cheaply profit remains their ultimate goal, and invest them in projects that not only create jobs but not profitable. Just big corporates adopt a strict return requirements for investments (so-called hurdle rate) of over 10 or even 20 percent, as in this explained article. This means that even at extremely low interest rates, only a few projects have a profit outlook that's bright enough to invest in it actually.

"Non-bank corporates have since the introduction of the euro never borrowed as much as in 2016"

lucrative destinations

The ECB has not learned from the American situation , where the stimulus from the Federal Reserve (the US central bank) also not led to productive investments. Large companies are not charities, and to satisfy their shareholders in the first place. If present themselves not attractive investment opportunities in the real economy, companies are looking for other lucrative destinations for their money. According to Bloomberg have "non-bank corporates never borrowed as much as in 2016. Where is this cheap money used since the introduction of the euro?

1. Repayment of expensive loans
   I have all Dutch companies approached the CSPP list to answer this question. Most companies did not respond substantively, but Aegon, Akzo Nobel, Enexis and Gasunie were so sporty to do to provide transparency. They acknowledged to borrow substantially cheaper since the announcement of the CSPP and the money to be used primarily to repay old, more expensive loans. Also KPN in August with an inexpensive new loan more expensive loans paid off faster. In their responses represented the companies that the money is then used for general corporate purposes, and the ability to borrow at the ECB has not led to a change in business or investment decisions. They thus seem to confirm that the low cost of borrowing does not lead to additional investments. None of the parties wanted to qualitatively comment on the ECB's policy. That is understandable in itself: the ECB's next capitalist financially supervisor, and you do not want to antagonize you! Certainly not as long as you reap the benefits of the CSPP in the form of cheaper funding.
2. cash hoard
   Thanks to its ultra-low interest rates, borrowing costs much less than before. This will hoard money also an interesting option. Think of it as a piggy bank for later. You pay nothing for a full reservepot you can break right away if present themselves or profitable investments.
3. Dividend payment and repurchase its own shares
   For shareholders, there is of course nothing more beautiful than the ECB's money immediately to see flow to the private purse. The payment of dividends is therefor the most direct method, but it has the disadvantage that you have to pay tax. The repurchase of own shares on the market is a much better option if you are sitting on huge pile of unused money. There is thus an artificially high demand for the shares thereby increasing the share price. Again cash to all shareholders, so from that angle you will hear no complaints. However, the result is an inflated stock price (asset inflation), which sooner or later comes back down - but that seems to worry about later. Short-term gains may even be so tempting to buy shares at these low rates is preferred over making risky (re) investment in the real economy. ( These two articles in the Financial Times and the OECD report explain how the purchase of own shares is more attractive compared to long-term investment due to monetary easing.) Ensure a good chance that the ECB instead of the economic stimulus, a new bubble in facilitating both bond and stock market.
4. Mergers and acquisitions
   Mergers and acquisitions worldwide since 2013, and certainly again sharply in Europe increased . Cheap financing opportunities and cash reserves are used by large companies to grow through acquisitions. The ECB peppered with its policy of corporate war funds to go on an acquisition and that creates a further concentration of economic power. FTM published last week an article about the power relations between supermarkets and suppliers after the merger between Delhaize (also found on the list CSPP) and Albert Heijn. Mergers and acquisitions rarely lead to productive investment or jobs, except the investment bankers and lawyers that accompany these deals. Boys thrive on the South Axis, but the ordinary man again did not benefit from the indirect purpose of the ECB's money.