The only surprise, inasmuch as it was the most unspecified ahead of time, from this morning’s ECB announcement was the terms of the new “targeted” LTRO’s. According to the press conference, the terms will allow European banks to borrow from the ECB up to 7% of the total amount of each bank’s loans to the European nonfinancial private sector, with a maturity of September 2018. There are add-on provisions for additional funding via the ECB for net added lending to the nonfinancial private sector beginning March 2015 and ending June 2016.

There is a larger point to be made here about the “targeted” part of this new program beyond the simple fact it appears the regime recognizes the shortfalls in its own recovery narrative. The original LTRO’s (there were two tranches) were supposed to have accomplished exactly this – more lending into the economy.

The stated policy goals, evinced under Mario Draghi more than anyone, took the form of simple steps; 1. Improve liquidity, leading to; 2. Reduction in interest rates, leading to; 3. Improved credit production, leading to; 4. Utopian economic recovery.

The ECB just admitted that was a total failure, and that all the original LTRO’s accomplished was ending the “tail risk” of the then-close bank panic. While that sounds like a significant feat worthy of tremendous compliments and tribute, it actually and seriously undermines the “bank first” approach that has captured central banking for more than a century. The whole theory of money elasticity relied on the assumed close interaction of banking dysfunction to depression – the latter was believed to follow only from the former. To eliminate the credit irregularity and disorder through “liquidity” meant, for this theory, the economy would be able to sail onward uninterrupted into broad riches.

They “fixed” the bank panic and the economy remained impaired anyway. In that respect, the ECB has performed a tremendous service in disabusing this notion in a way that was not possible before. I know that was never the intent, but central banking in the age of fiat so very rarely conforms to intent, so at least there is a silver lining here.

Now they are backtracking, seriously, to rewrite their intentions into something more formal and defined. Generic bank difficulties have given way to a “targeted” credit approach, or as I said yesterday breaking convention and engaging in direct allocation in the economy regardless of “market” actions that so far refuse to do so. Command and control just took another huge step forward in Europe because what was previously accepted as inarguable fact by orthodoxy has been revealed as nothing more than hopeful and untested academic conjecture.

Throw in the Bank of Japan’s recent struggle and the rethinking of QE and inflation in the US and it has been a bad year for orthodox theory. If only it were left solely in the classroom or to computer simulations the rest of us wouldn’t have to suffer while the “aggregate demand” adherents catch up.

 

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