The European Central Bank on Thursday moved to fix one of the major risks to the world economy, agreeing to unlimited purchases of government bonds in hopes of restoring faith that the euro currency union won’t crack apart.
The new bond buying, meant to assure that euro zone governments won’t be pushed toward default by investors skittish about the currency’s future, sparked a rally in world markets and drew praise from analysts who have often been critical. Major European exchanges jumped upwards of three percent or more, and U.S. stock indices posted their largest gains in weeks, with the S&P closing at a four-year high.
By committing its massive financial clout to stabilizing European government debt markets, the bank has potentially alleviated one of the chief concerns of U.S. and other policymakers — that a crisis in a major country like Spain or Italy could push the world financial system back into gridlock. That, in turn, could trigger a downturn to rival the one that followed the collapse of Lehman Bros. in 2008. In coupling the bond purchases with its earlier, trillion-dollar round of loans to keep European banks afloat as they restructure, the ECB has focused on the main sources of a “Lehman-like” meltdown — a major sovereign default or the failure of a major financial institution.
Thursday’s actions won’t fix the euro zone’s chronic economic problems, or cure the regional recession that has hit the bottom line of American, Chinese and other companies that depend on sales to the 17-nation currency bloc. The region’s lagard status — dragged down by a loss of competitiveness in several euro zone nations, heavy debt and concerns about the currency’s survival — was in the spotlight again Thursday when both the ECB and the Organization for Economic Cooperation and Development predicted that the recession to continue through this year and into next.
But the new action might fend off the imminent threat that Spain or Italy could be locked out of world bond markets by rising interest rates and have to rely on public bailouts from other European countries or the International Monetary Fund. Greece, Ireland and Portugal are already operating under such programs, but the funding needs of the euro zone’s third- and fourth-largest economies would likely be too much for the existing bailout funds to swallow, and would even stretch the IMF’s coffers.
Making clear that the central bank will be forceful in working to halt key aspects of the crisis, Draghi said the loss of trust in the euro’s survival had become so corrosive that the central bank had to intervene. Because the buying and selling of government bonds is tied so deeply into Europe’s overall financial system, Draghi said, the problems in that market were undermining the ECB’s ability to set basic monetary policy. But some in Europesee that argument as a move to justify an ECB program that inappropriately subsidizes governments.
“We want this to be perceived as a fully effective backstop,” Draghi said. “We are in a situation where a large part of the euro area is in a bad equilibrium, where you have self-fulfilling expectations that feed upon themselves and generate very adverse scenarios. There is a case for intervening to break these expectations.”
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