Thursday, December 1, 2011

Draghi's speech to the European Parliament: a breakthrough?

Mario Draghi, head of the ECB, gave a somewhat dovish speech today to the European parliament. As the NYT reports:

He seemed to be saying that the bank would use its virtually unlimited resources to keep financial markets at bay, if government leaders in the euro region agreed to do their part by addressing the structural flaws that had allowed the debt problems of Greece to mutate into a threat to the global economy.

“What I believe our economic and monetary union needs is a new fiscal compact,” Mr. Draghi said. “It is time to adapt the euro area design with a set of institutions, rules and processes that is commensurate with the requirements of monetary union.” After government leaders take steps to improve the way the euro area is managed, “other elements might follow,” Mr. Draghi said.

I can’t imagine Draghi would make such a statement without the consent of the ECB’s governing board, including the Bundesbankers. He seemed to be saying that if the “Merkel Plan” is adopted, the ECB would intervene more forcefully in the government bond market.

The Merkel Plan would change the eurozone from a monetary union into a fiscal union, with Brussels in charge of national fiscal policy. It has not yet been fully embraced by Sarkozy, and it leaves unanswered what would happen to the 10 EU members who are not part of the eurozone.

I won’t say that the ECB’s independence has been compromised de jure, because it certainly hasn’t. But the ECB has found itself in the awkward position of either leaving its “price stability” comfort zone, or else standing by while the eurozone (its raisson d’etre) goes away. It would be understandable if certain board members did not wish to preside over the dissolution of the eurozone.

“Who will rescue the eurozone?” is a hot potato that has been tossed back and forth between the ECB and the eurozone governments for a number of weeks. It would seem that they have begun to inch toward a joint plan:
the eurozone will impose a fiscal strait-jacket upon itself, in return for which the ECB will intervene forcefully in the bond market, thus rescuing Italy and Spain.

There are two big ifs here: (1) Will all 17 members agree to the Merkel Plan; and (2) if they do, can Draghi really deliver the ECB in force? Previously, the ECB had demanded that the eurozone issue guaranteed eurobonds. Now it would appear that it is prepared to buy national bonds without any guarantees on the basis of the “fiscal pact”. As always, I am skeptical. But this latest news suggests that all is not yet lost, and there may indeed be light at the end of the tunnel.

If so, this is very bullish news, the best news in months if not years.

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