The ECB Needs a Bazooka to Close Bond Spreads

In July 2008, with the global financial crisis trashing the world’s economy, then US Treasury Secretary Henry Paulson asked legislators for the power to grant unlimited credit to his country’s mortgage agencies: “If you have a squirt gun in your pocket you may have to take it out; if you have a bazooka in your pocket, and people know you have a bazooka, you may never have to take it out.” Given what’s happening to government bonds in the euro zone, the European Central Bank may want to start building a bazooka of its own.

With inflation in the bloc running at four times the central bank’s target, the rise in European yields this year is entirely logical, and the debt market selloff has been pretty orderly. But the risks of fragmentation are growing as the yield premiums of peripheral nations soar compared with Germany. When a 10-year bond loses a fifth of its value in six months, it is typically a sign of distress on the part of the borrower. This is happening not to some struggling company, but to Italy, Europe’s third-largest economy.