Why ECB's President Mario Draghi Is Unrealistic

By George Leong

There is much discussion on China and the impact of stalling on the global economy, yet the region that really needs to be monitored is Europe and the eurozone.

While China is still growing its economy at a seven- to eight-percent clip and is tops among the G8 countries in the global economy, Europe continues to look for any reason for optimism given its recession and the fact that six of the 17 eurozone countries are in a recession. Greece, for instance, reported a horrific unemployment rate of 26.8% in March, while to the West, the Spaniards are facing unemployment of 26.7%.

The Organization for Economic Cooperation and Development (OECD), in its semi-annual Economic Outlook, suggested the dire situation in Europe is a threat to the global economy. (Source: “Global economy advancing but pace of recovery varies, says OECD Economic Outlook,” OECD web site, May 29, 2013, accessed June 7, 2013.)

A look at the Dow Jones STOXX Europe 600 Index, featured in the chart below, shows the rally from the bottom in 2009; however, I personally wouldn’t be a buyer, and I advise you to look to Asia for your foreign exposure.

Chart courtesy of www.StockCharts.com

Then there’s Mario Draghi, the President of the European Central Bank (ECB), who at the central bank’s monthly press conference last Thursday, raised his gross domestic product (GDP) estimate for the eurozone to 1.4% for 2014, following a 0.6% contraction this year. (Source: Bishop, K., “ECB Holds Rates and Cuts Growth Forecast,” CNBC web site, June 6, 2013, accessed June 7, 2013.)

I really cannot understand how the ECB expects a turnaround to that degree in 2014. My feeling is that the eurozone growth is linked to the economic growth in the global economy.

In his address, Draghi said he expects “a very gradual recovery” to begin this year. In my view, that sounds like an understatement—he is being far too optimistic given the current situation.

To drive up spending in the eurozone, Draghi suggested the ECB may even look at negative deposit rates for when deposits are made by banks at the ECB to discourage savings. I don’t fully understand the real-life implications of this, but I do know that it simply means banks would be required to pay the ECB for holding their cash. The problem is that if it came down to this—the ECB introducing negative deposit rates—then the economic situation must not be good.

The reality is that Draghi and the ECB have been buying up government bonds with maturities of up to three years for troubled countries such as Spain and Italy, and so far, there appears to be minimal impact.

In my view, the eurozone remains in an extended structural weakness, and this will impact the global economy. It will take more than a year for the region to pull out of its current situation. In fact, the only thing that the ECB is managing to do is helping the region and specifically the weaker members from falling into a much deeper recession.

My reasoning is that it’s hard to have a fully functioning and effective eurozone with just two strong member countries—Germany and France—supporting 15 dependent members. Even Germany and France are showing cracks in their economies.

As I have mentioned in the past, since its beginnings in 1999, the eurozone has yet to work, and unless there are more radical changes, the region will likely continue to be a project for the ECB. In the meantime, the region will continue to be a major drag on the global economy.

This article Why ECB’s President Mario Draghi Is Unrealistic  was originally published at Investment Contrarians