Mario Draghi’s comments earlier today showing the ECB’s commitment to the euro to do whatever it takes to keep the single currency intact were greeted by most with a sense of relief. In a speech in London, Draghi said that it is completely within the ECB’s mandate to reduce sovereign bond “premia” if they are a hindrance to monetary policy. Whether Draghi meant the ECB was prepared to make more bond purchases or commit to a backstop along the lines of the ECB’s Bagehot Rule Policy that I outlined last month was not clear. But European sovereign bond markets rallied on the news, particularly in Spain and Italy. Equity markets rallied as well; the Spanish bourse was up 5% while the Dow soared over 200 in reaction to the news.
Not everyone was happy with Draghi, however. In Germany, there was consternation within the German ruling coalition due to fears that ECB policy would be inflationary. Business daily Handelsblatt described the situation:
Politicians from the CDU and FDP received with great concern the announcement by the President of the European Central Bank (ECB), Mario Draghi, who signaled further support for the crisis countries in the euro-zone. “According to the logic of the supposed rescuers, when the rescue funds reach their limits, then Super Mario will come forward with Big Bertha,” FDP parliamentary group financial expert Frank Schaeffler said to Handelsblatt online. Precisely for this reason is the inflationary scenario in the end most likely. “Draghi is not a savior, but a plunderer of people’s savings.”
In the CDU, there were similar reactions, with Klaus-Peter Willsch telling Handelsblatt that “an increased rate of inflation is an inevitable consequence of this policy of the ECB.”
If the ECB goes ahead and attempts to backstop Spanish or Italian debt, as I believe they will have to in order to keep the euro zone intact, there will be a negative reaction in influential circles in Germany. A legal challenge would be likely. Where would Angela Merkel stand on this in an election year like 2013? Probably we will find out even before this date. As yet, Merkel has not taken a position. But with growth waning in Germany, tolerance for bailouts will certainly wane. But I believe Merkel will have no choice but to accept a euro zone breakup or an explicit ECB backstop for Italy and Spain. This day is coming.
This post originally appeared at Credit Writedowns and is posted with permission.
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