September 5th, 2012
08:04 PM GMT
Ten months into his eight-year term, the man hailed as ‘’Super Mario’’ is facing his biggest test yet.
And though the outcome of the European Central Bank’s latest meeting is by no means a given, what’s sure is his words will resonate far from the region’s shores.
Now into its third year and counting, the single currency’s funding crunch has claimed the scalps of three eurozone countries so far and threatens to engulf others which are ‘too big to bail’ but too big to fail.
What started as a financial crisis has morphed into an existential one and left ECB President Mario Draghi to fill the vacuum of leadership left by the eurozone’s squabbling politicians.
While the ECB will formally be contemplating its interest rate policy on Thursday, Draghi’s most pressing task will be far less mundane: instead investors are relying on him to keep the next troubled members solvent, even if that means creating an artificial market for their debt.
As such, the bets are on that the ECB boss will announce plans to buy up the sovereign debt of the eurozone’s peripheral nations, like Italy and Spain, to bring down their bond yields and cut their borrowing costs.
Indeed, in July the 65 year-old Italian seemed ready to deliver, swearing he would “do whatever it takes” to save the euro.
By August however markets were left hanging with scant details of any future grand plan.
So now, once again they wait with bated breath.
But some say there’s a very distinct possibility traders may well go home disappointed.
Danny Gabay, a former Bank of England economist now director at Fathom Consulting, believes any announcement by Draghi will be short on details.
What’s more: the ECB’s bond purchases are unlikely to occur without some form of conditionality. "This by itself may produce further political wrangling and brinkmanship,’’ he says.
Either way, if the ECB does go ahead and unveil asset purchases here is what other economists will be looking for:
• Volumes unknown. The size of the scheme will probably be left deliberately vague with no limit imposed. If there’s anything central banks have learned it’s that playing the numbers game with markets is a dangerous business.
• No Public Yield Targets: For the same reason it’s unlikely the ECB will publish the yield it will try to get Italian and Spanish bonds down to. Although Draghi will almost certainly have his own internal objective, Citigroup says it’s improbable this will be made public.
• Sterilized Purchases: Most economists agree the bank will neutralize the risk of the transactions by mopping up the extra liquidity they create. This would help it avoid criticism from some member states, particularly those concerned about spurring inflation, like Germany.
• Short Maturity: Another reason why Draghi has found his scheme a hard sell is because of fears it will reduce the impetus for weaker members to rein in their deficits and implement reforms over the longer term. For this reason purchases of 3 year bonds –rather than say 10 or 30-year securities – could be a more palatable compromise to maintain the urgency of balancing the books.
But here’s the catch: all of the above assumes Draghi actually has the right to ride to the rescue and save the day.
Notoriously narrow, the ECB’s mandate is technically only to keep prices stable across the bloc’s 17 nations at or around a pre-determined level of 2 percent.
As an independent institution, the bank is not authorized to dictate fiscal policy only rather react to it and critics say Draghi’s promises have already overstepped the mark.
As UK Chancellor of the Exchequer from 1983 to 1989, Nigel Lawson presided over an eponymous economic boom during the Thatcher years before the Bank of England was independent.
This week he told me Draghi’s reported bond-buying would be illegal and risked undermining the entire ECB as an institution.
Lawson says that default is inevitable for some eurozone states and instead of trying to prop up the ailing monetary union, leaders should be looking for ways to dissolve it.
‘’The idea of Mario Draghi saying ‘’the euro is irreversible’’ is one of the most stupid statements that has ever been made,’’ he says. ‘’Nothing, is irreversible. Nothing.’’
Then again as my economics professor always told me: “Never talk in absolutes.”
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