The U.S. and Europe have been a study in contrasts lately, with Europe struggling through recessionary conditions even as the U.S. economy has seen growth accelerate recently. With the eurozone facing potential deflationary pressures from weak economic activity and falling energy prices, analysts have speculated that the European Central Bank would follow the playbook from the Federal Reserve and implement a form of quantitative easing.
Now two central-bank officials in Europe have reported that the ECB's Executive Board had proposed a program that could involve spending more than a trillion euros on asset purchases, which would potentially expand the ECB's balance sheet by half. In the U.S., stock markets reacted favorably to the news, with the Dow Jones Industrials (DJINDICES:^DJI) up almost 60 points shortly after 11 a.m. EST. Given how the Dow climbed to record heights during the Fed's quantitative easing program, it's reasonable to wonder whether U.S. stocks could again benefit from similar efforts in Europe.
On one hand, it's reasonable to assume that any injection of money into Europe's economy would help U.S. stocks. Already, bond yields in Europe are near zero, with some financial institutions actually charging customers to keep their money in deposit accounts. Many European investors have looked across the Atlantic for a safer haven for their investment money, helping to continue the U.S. dollar's upward trend and bolstering stock market gains for the Dow and other major U.S. indexes as well. Any further pressure to move out of fixed-income investments could spur additional capital flows into the U.S. from Europe.
Quantitative easing in Europe, however, will have a much different flavor than the Federal Reserve's program. The most important distinction is that purchases of sovereign bonds of member countries will have political and economic ramifications, as officials will have to decide how to allocate money across different countries' debt and how to handle any risk of default on purchased bonds. In some ways, the ECB program could resemble what would have happened if the Fed had proposed buying municipal bonds from across the 50 states, with weaker-credit jurisdictions like Illinois fighting to get a bigger share of the overall stimulus pie. Similar squabbles between the healthier nations of the European Union and its weaker members could make eurozone quantitative easing particularly contentious.
If investors lose confidence in the euro as a result of a rough start to quantitative easing, then U.S. stocks could go through some turbulence. Further declines in the euro would make the currency-related pain that U.S. multinationals are going through even worse, hurting corporate earnings and revenue. If a falling euro caused European investors to put even more of their money to work overseas, though, then U.S. stocks could see a net benefit.
At this point, it's almost certain that the ECB will move forward with at least some plan to help improve the European economy and avoid deflation. From their New World vantage point, though, U.S. investors might end up being the big winners from any action the ECB takes.