Draghi will do what it takes (give or take)

 
Mario Draghi Markets were unimpressed by Mr Draghi's comments

Financial markets got some clarity from the European Central Bank (ECB) president today on what the bank was prepared to do to help troubled eurozone economies. There was also some genuine news in what Mario Draghi said on the issue of seniority.

But - as Mr Draghi said himself - there are plenty of details still to be filled in. As I suggested in my blog on Saturday, he's going to make sure that governments get their act together first.

The ECB president confirmed that the bank was willing to buy government bonds in the secondary market, but there were three key conditions.

First, the country concerned must have already applied for support from the European rescue funds - the European Financial Stability Facility (EFSF) and/or the European Stability Mechanism (ESM).

Second, that support would need to have strings attached - conditionality. In other words, the beneficiary government would need to have made appropriate promises on fiscal policy and structural reforms.

And third, the ECB governing council would itself have to decide that central bank bond purchases are also needed. Here, Mr Draghi was very clear that "monetary policy remains independent": conditions one and two are necessary for the ECB to act, but there's no guarantee that it will.

Will this be enough? The early response of financial market analysts seems to be that it will not be: the head of Pimco, Bill Gross, for example has already said the market will be disappointed.

They will be especially disappointed, probably, by the lack of detail on how, exactly, the ECB plans to go about any bond purchases - and the lack of a time frame.

The ECB president said the relevant committees would need to work on the "modalities" of any ECB intervention over the next few weeks.

Talk of committees makes investors' hearts sink. It sounds bureaucratic and slow, when the one thing the ECB is supposed to have over governments is that it can act quickly, without all those bloomin' meetings.

He also said that one member of the governing council had objected to today's statement. The assumption is that it was the head of the Bundesbank.

But, as Mr Draghi himself said, at the moment there is no country that has applied to the EFSF or ESM - so even if the ECB were ready to act, "there would be no case for doing so".

And in some areas, the lack of detail was interesting in its own right.

Crucially, Mr Draghi explicitly left open whether the new bond purchases would be sterilised - i.e. whether the ECB would sell other assets, to leave the total money supply unchanged.

To translate: if the bond purchases are not sterilised, then they would come under the heading of genuine quantitative easing, like the Bank of England and the US Federal Reserve.

This, and the talk of "new modalities" is significant. It means that future bond purchases - if they happen - will not involve the Securities Markets Programme (SMP). They will be qualitatively different, and perhaps quantitatively different as well. Mr Draghi said they would involve short-dated debt - not the longer term government bonds included in the SMP. And they will be "of a size adequate to reach its objective". That could be a lot bigger than the "limited and finite" purchases we saw under the SMP.

My reading of all this is that Mr Draghi wants to bring the bond purchasing programme back into the fold. He wants it to form a coherent part of the ECB's monetary policy machinery, rather than an awkward add-on, like the SMP.

That is important for the future - even if the "modalities" are vague, and the conditionality for governments is a necessary first step.

It is also important that the ECB has promised to address investors' concerns about seniority (for an explanation of which, see my Saturday blog). It's news, even if it is completely unclear, right now, how the ECB could take a hit on its future bond holdings when it had previously suggested this was not legally possible.

The bottom line is that the ECB has not offered as much as many in the markets had hoped for. But Mr Draghi has laid down some important markers for the future which should not be ignored.

Posterity might judge the ECB's performance more kindly than investors do today. Then again, for most in the financial markets, posterity is not exactly a big concern.

Update 1850: The markets are indeed deeply disappointed by what the ECB has done.

The euro is down and the interest rate on Spanish and Italian 10-year government bonds have each risen by around a third of a percentage point since Mr Draghi first opened his mouth.

Dario Perkins, at Lombard Street Research, says the ECB "spectacularly under-delivered".

Marchel Alexandrovich, at Jefferies, is even more damning. He thinks the insistence on a country applying for formal support sends a dangerous signal to the markets.

"What Draghi has basically indicated is that the problem in the bond markets has to get considerably worse before the ECB steps in to help.

"This is an incredible turn of events. Forget pre-emptive action, instead Draghi had just presented a clear vision of how the crisis is now set to intensify.

"Draghi is playing a very dangerous game here. Prior to today, the markets hoped a bailout would not be necessary, now they have been told it is inevitable!"

Others are not quite so depressed about Mr Draghi's performance. That might be because they had lower expectations to begin with. But he has certainly hit the ball back into the government side of the court.

 
Stephanie Flanders, Economics editor Article written by Stephanie Flanders Stephanie Flanders Former economics editor

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  • rate this
    +2

    Comment number 40.

    Promises, Promises, Promises....

    That's all that is left now.....

    There are now more promises about, than there are stars in our Galaxy.

    Once it is realised that these promises will never be met, then look out....

  • rate this
    0

    Comment number 39.

    perhaps I am so complacent because I have never known war on my doorstep in my life time. It's a terrifying thought.

  • rate this
    0

    Comment number 38.

    #33 fleche_dor

    "The markets may be impatient, but its the politicians needing to take their electorates with them."

    --the present problems are caused by European national differences-- both at governmental and ┬┤electorate┬┤ levels --and independent of currencies.

    -- Take the UK and Greece as examples.

    --A Greece will never be a UK nor a France nor Italy nor Germany.

    --that is the problem.

  • rate this
    0

    Comment number 37.

    So ECB will do what they can to aid but reliant on original factors. That so much was placed on ECB magically stepping in resolving the crisis suggests that nobody has any real idea of the best course of action to take. They will be disappointed that the emphasis now rests on the original bailout plans and little done to change the circumstances.

  • Comment number 36.

    All this user's posts have been removed.Why?

  • rate this
    +2

    Comment number 35.

    Sadly this was predictable and predicted. One day they will realise that you cant solve a debt problem with austerity and the problem is not a debt problem but a depression problem. The state needs to step in and apply the defibrillator of reflation and job creation.

  • rate this
    0

    Comment number 34.

    @31 - I don't think it will collapse. This is a never-ending saga.

    More can kicking.

    Whatever it takes = unlimited road building

  • rate this
    -1

    Comment number 33.

    No real surprises; cautious, careful steps in the right direction, the ECB announces the policy developments it can, within its powers, the markets are disappointed and further news is awaited from the politicians.

    I can't help feeling that we ought to try and speed the process up a little.

    The markets may be impatient, but its the politicians needing to take their electorates with them.

  • Comment number 32.

    All this user's posts have been removed.Why?

  • rate this
    0

    Comment number 31.

    I invite any of you highly esteemed economists, soothsayers, infinitely wise dudes and the others to put a time scale on the collapse you all predict. Because I predict it will all just carry on. When you have got bored, died or whatever else may fall in your path - it will be carrying on. So - wise guys - give us a date. Just for fun.

  • rate this
    0

    Comment number 30.

    28+

    The Pythia (in this case Steph. F.) makes obscure quasi predictive Oracular utterances.

    But beware. The interpretation.

    For example: ask if your empire will win a battle against another the Pythia (in a drug induced state) might predict that a great empire will be lost. The catch is it is yours not your enemy's!

    Do not wish for certainty for the only certainty is that of the grave!

  • rate this
    0

    Comment number 29.

    "Will this be enough? The early response of financial market analysts seems to be that it will not be (...)"

    How to save the euro:

    http://tinyurl.com/blj2bhg

  • rate this
    0

    Comment number 28.

    The markets can never be satisfied for if they are then they will make a large loss.

    Perversely (or perhaps not) markets seek nirvana but never actually achieve such a state - that is how they work - they always fail - indeed they bet on failure. Success would ruin them.

    Pundits always wring their hands and moan like the Furies off stage and in fact signify nothing but background noise.

  • rate this
    -1

    Comment number 27.

    re#23 Part 2
    Carbon Allowance Market can be public co., ownership of shares on start up split between people on lowest incomes, market makers/traders & banks.

    Again people on low incomes share in profits, traders make a living, banks employing traders make profits, Govts take taxes. :-)

    Downside may be a change of behaviour of wealthy/high earners caused by restriction of carbon.

  • rate this
    +1

    Comment number 26.

    Is this not what Carbon Credits do at the moment?

  • rate this
    +1

    Comment number 25.

    " Now that's what I call an Emissions Trading Scheme. "

    -- better to have one for every parent-- to pay for the patter of little carbon feet prints.

  • rate this
    0

    Comment number 24.

    @23 - Now that's what I call an Emissions Trading Scheme.

    Where do I sign up?

  • rate this
    -1

    Comment number 23.

    One way out of current mess may be to introduce carbon ration. Everyone has allowance of flights, road miles, gas & electric units. Those who have limited income/limited requirements can sell their allocation on Carbon Allowance Market. Those who want to fly on many hols, drive fast cars, etc will have to buy extra ration.

    Should be big transfer of income from rich to poor, from north to south.

  • rate this
    0

    Comment number 22.

    #19 Shipwreck

    "If the EU want the Euro to work look across the Atlantic at the USA and copy the system. One Country, one currency. Otherwise forget it."

    -- Gore Vidal suggested 3 or 4 countries would have worked better for America.

    --and what is all this talk about US debt ?

    -- and no longer AAA ?

  • rate this
    +2

    Comment number 21.

    The only good banking news I've seen in a very long time is the opening of Burnley Savings and Loans. Maybe the ECB should ask Dave Fishwick his opinion?

    Back to Steph's article I think this just underlines the massive flaws in the banking/finance system.

    And still no one is looking at the private debt in Spain.

    What we have to decide is how not to pay back these loans - Steve Keen.

 

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