Draghi’s Inaction Is a Blow to Traders and Obama
He talked the talk but, well, you know the rest. Mario Draghi said today that he may use the European Central Bank's balance sheet to resume buying government bonds in the open market to ease the euro area's debt crisis.
The high yields that countries like Spain and Italy must pay to borrow in capital markets are “unacceptable and ... need to be addressed in a fundamental manner,” Draghi, the ECB president, said at a press conference in Frankfurt. “The euro is irreversible,” he added, while also urging euro-area countries to begin using a rescue fund they control to purchase sovereign bonds as well.
It's what Draghi didn't say that disappointed traders, investors and surely President Barack Obama, whose reelection may rest on Europe's ability to stop its recessionary slide. Draghi didn't say the rescue fund should get a banking license so that it could borrow from the ECB and leverage its firepower. He didn't present a plan spelling out how coordinated bond intervention would work. He didn't lower the benchmark interest rate, now 0.75 percent. He didn't address bond-market fears that the central bank would demand seniority to other investors on any bonds it purchases. He didn't even promise to intervene in sovereign debt markets -- he said only that he may. Add it all up, and Draghi failed to deliver on last week's pledge to do “whatever it takes” to save the battered euro.
The markets, expecting much more, took little comfort in Draghi's promises of actions to come. The euro declined, and Spanish and Italian bond yields rose -- the opposite of what Draghi hoped to accomplish. Traders fixated on the only truly decisive remark he made: that the ECB's governing council may be hopelessly split. “It is clear and it is known" that Jens Weidmann, head of Germany's central bank, the Bundesbank, and others on the ECB "have their reservations about programs that buy bonds,” Draghi said. Opposition by the Bundesbank, the ECB's largest and most influential shareholder, could be formidable.
The U.S. Federal Reserve and the Bank of England made similar hands-off decisions this week. The Fed said Wednesday that it would take new steps as needed to promote stronger economic growth and employment but is keeping its powder dry for now. The Bank of England today held its key rate at 0.5 percent and its bond-purchase target at 375 billion pounds ($586 billion). Those decisions, however, didn't disappoint markets as much as the ECB did because only Draghi had made public his ambitions.
Instead, Draghi left himself room to continue doing nothing at all. Suggesting that member governments use rescue funds is, at best, a scold and not a command, which he can't give in any case. Bond purchases by the European Financial Stability Facility, which unlike the ECB has the authority to buy directly from governments, would be a positive move. But only member governments can activate the rescue funds, and so far they don't seem inclined to dip into their capital.
Draghi expressed surprise “at the amount of attention my remarks last week received in the press.” That sure sounds like an admission that he can't deliver on the policies he thinks would work. A central banker who is unable to satisfy market expectations that he raised, or convince his largest constituency that he knows what he's doing, is in a tough spot.
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