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ECB to turn off QE stimulus tap - but has it worked?

This Friday, almost un-noticed, one of the biggest events in financial history is set to come to an end.

The European Central Bank is expected to confirm the end of its asset purchase programme, known in the jargon as Quantitative Easing (QE), under which it has bought more than €2.6trn worth of government and corporate bonds.

The scheme was launched by Mario Draghi, the ECB's president, on 9 March 2015 in a bid to kick-start growth in the eurozone economy and rebuild confidence.

At the time, the euro area was grappling with negative inflation (deflation), a corrosive phenomenon in which prices fall.

Concerns about a deflationary spiral of the kind seen in Japan in recent years, in which consumers and businesses postpone spending while they wait for further price falls, were very much to the fore.

The fear was that such a spiral would push the single currency bloc into a deep depression.

The idea behind the scheme, as with QE programmes elsewhere, was that the owners of the bonds being bought by the ECB, mainly the banks, would be able to lend the proceeds to households and businesses and stimulate economic activity.

However, Mr Draghi's move was intensely controversial, especially in Germany.

While a number of central banks around the world introduced asset purchase schemes to stimulate their economies after the financial crisis, including the US Federal Reserve, the Bank of Japan, the Bank of England, the Swiss National Bank (LSE: 0QKG.L - news) (SNB) and Sweden's Riksbank, there was a subtle difference between those banks and the ECB.

All of those banks, while in some cases - such as the SNB - being privately-owned, were able to launch their schemes in the knowledge that the jurisdictions in which they operate were supportive.

The policies were also launched, apart from in Japan, with the unanimous agreement of policymakers.

The ECB's situation was different.

Prior to the launch of its QE programme, a debate had raged for months about who would bear any losses from it, with northern European countries like Germany, Finland and the Netherlands regarding the scheme as an effective get-out-of-jail-free card for what they saw as the more profligate nations of southern Europe like Italy and Greece.

This is because, as a country's bonds are bought in large quantities, the price of those bonds rises and the yield - the implied cost of borrowing to the issuer - falls.

The Germans, in particular, worried that free-spending southern European countries, benefiting from a fall in their borrowing costs, would not be subjected to the normal disciplines of the bond market.

It was of particular concern because under the securities markets programme, an earlier bond-buying programme launched by the ECB, national central banks such as the Bundesbank in Germany or the Banque de France, shared the risks according to something called the "capital key" - which determines how much capital each eurozone member contributes towards the ECB and which is calculated according to the size of individual economies.

Should any of the issuers of bonds being bought by the ECB default then, as the eurozone's largest economy, Germany would have been on the hook for the biggest share of losses.

To calm those fears, Mr Draghi insisted that only a fifth of the ECB's bond purchases would be subject to "risk sharing", with most of the risk of possible defaults by bond issuers being borne by individual central banks within the bloc such as the Bank of Italy.

To further soothe German anxieties, Mr Draghi also set "eligibility criteria" that would rule out buying bonds issued by countries that were at the time subject to EU and International Monetary Fund bail-out programmes, such as Greece and Cyprus.

The programme began by buying €60bn of assets every month.

This was raised to €80bn per month in April 2016, trimmed back to €60bn per month a year later and then, in January this year, halved to €30bn per month.

This was halved again to €15bn per month in October and will come to a halt altogether this week.

The big question is whether the scheme has worked.

On some measures, the answer has to be yes. The euro area economy enjoyed more rapid growth than that of the United States, its closest peer, in both 2016 and 2017, although the latter will outperform it in 2018 thanks to the stimulus provided by President Trump's tax cuts.

Job creation in the eurozone during the period since the ECB launched its asset purchases has also been broadly in line with that of the US.

Moreover, the rate of inflation in the eurozone is now 2%, against the ECB's mandate of aiming for an inflation rate of "below, but close to, 2% over the medium term". By that measure, the ECB's asset purchases have therefore been a success.

By some other measures, though, the jury is out.

Mergers and acquisitions activity, a key measure of "animal spirits" among companies, has failed to rise in the bloc in recent years in the way that it did when the Federal Reserve launched its own scheme.

Ultra-cheap money and stimulative monetary policy was aimed at helping companies to invest and expand, if necessary, by borrowing. The opposite has happened.

As one (Other OTC: IUSDF - news) credit analyst at a leading investment bank puts it: "Corporate leverage is down in Europe in recent years, not up. Draghi invited companies to be expansive - they didn't pick up the baton."

Accordingly, he points out, earnings growth among companies in the eurozone has tailed off - while credit spreads (a measure of the extra return investors in bonds receive for backing a riskier proposition) for corporate bonds are "back where Draghi started".

He adds: "You have to ask yourself - was it all a dream?"

On that measure, then, the ECB's asset purchases have been a failure.

The other big question is what happens next?

There have been signs recently that economic growth in the eurozone is petering out and some countries, notably Germany and Italy suffered a contraction in their economies during the third quarter of the year.

So, while the ECB feels the economy is strong enough for it to withdraw its emergency medicine, the chances are that it is still a long way from being able to begin raising interest rates in the way that the Fed and the Bank of England have been.

There is also the question of what the ECB will do with the €2.6trn worth of bonds it has bought.

The fact it is no longer buying any more bonds takes away the "marginal buyer" of any government or corporate bonds issued in the eurozone from now on, potentially making it harder for governments and businesses to raise money by selling bonds.

And, of course, the ECB is not stepping back from bond markets altogether, as it will still be reinvesting the proceeds from the bonds it holds as they mature, something the Fed - but not the Bank of England - was able to stop doing a while ago.

It will also create a challenge for investors. Risk will have undoubtedly been mispriced in the eurozone during the life of the ECB's asset purchase scheme. So investors are likely to take a more cautious approach in future.

That means borrowing costs for companies in the eurozone are likely to rise - kicking away a major crutch that has supported the economy, and jobs growth, during the last three years and nine months.