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Remember the October 26 deal to expand the European rescue facility? Nobody who matters believes in it anymore.Irish PM Enda Kenny and Greek PM Lucas Papademos — both of whom are feeding at the Europe Financial Stability Facility (EFSF) trough — both basically said today that it wasn’t enough.
A look at Italian (and French, and Belgian, and Spanish, and Portuguese) bond yields would confirm their view.
There’s one answer for Europe: the ECB.
If you haven’t read the partial transcript of Citi economist Willem Buiter on Bloomberg TV today, you ought to.
The key part, which he said with some anger rising in his voice, was this:
On why the ECB hasn’t acted yet:
“Because after the error of the Bundesbank, they consider central banks purchasing sovereign debt outright to be like swearing in church. It’s just not done. This has been in fact to a certain extent embedded in the treaty which forbids the ECB from lending directly to governments or buying stuff in the primary market. But there is no restriction at all on them buying any amount of sovereign debt at any time in the secondary market, so they can do it.”
“This crisis is the result of the failure to provide the minimal institutional underpinning for a monetary union in the euro area and also a result of the ECB unfortunately being the heir of the Bundesbank and therefore not understanding and rejecting the role of central bank as lenders’ last resort to sovereigns. They certainly are a central bank. They just are a central bank that prefers to fight with both hands behind their back. If they just let go of one hand, that would be enough.”
It’s not just that the ECB could immediately push Italian yields down to 4% if it wanted to… it’s that this role that the ECB is being asked to play is not even extraordinary by modern economic standards. Every other major economy in the world: Japan, the UK, the US, China, etc. has a central bank that funds the government. Only Europe doesn’t have that, and that’s why, with debt-to-GDP ratios high around the world (Japan has a 200% debt-to-GDP remember), it’s just Europe that’s in crisis.
But there is this problem with the ECB being the descendant of the Bundesbank, and, well, the Germans are really not into anything that looks like debt monetization.
That’s why the Germans will look for any explanation of the current crisis other than the obvious one. As Bundesbank chief Jens Wiedmann said this weekend, Italy has a political problem, and Greece has a debt problem. That both Italy and Greece (and Portugal and Cyprus and Ireland) could have problems relating to something more fundamental to their monetary structure either completely eludes Wiedmann, or he’s just not allowed to admit it due to German ideology.
(By the way, if the Germans are really worried about inflation, they should just look at the relative lack of inflation in the US, post QE, which is something that Richard Koo has pointed out.)
Now granted, there is a defence of the ECB, which Edward Harrison makes brilliantly in a post today. Unlike, say, when the Fed or the Bank of England do QE, ECB bond buying is a fiscal operation that would be creating winners and losers and also fostering moral hazard. After all, why not spend like crazy to get ahead of your peers, if the ECB is holding your debt at a certain level. That does make the question tricky.
But the bottom line remains: There’s no chance of anything that’s been planned so far working out, since the only solution (more fiscal austerity) only makes the underlying debt dynamic worse.
So the question is: Will the ECB wait too long and blow it?
Here’s Willem Buiter again:
“Time is running out fast. I think we have maybe a few months — it could be weeks, it could be days — before there is a material risk of a fundamentally unnecessary default by a country like Spain or Italy which would be a financial catastrophe dragging the European banking system and North America with it. So they have to act now.”
“The only two guns in town, one is only theoretical, and that is increasing the size of the EFSF to 3 trillion. It should happen but it can’t for political reasons. The other one, the only remaining share is the ECB. They may have to hold their noses while they do it, and if they don’t do it, it’s the end of the euro zone.”
The clock ticks…