Eurogroup meeting – February 2015. From left to right: Wolfgang Schauble, German Federal Minister for Finance, Mario Draghi, President of the European Central Bank. Eurozone finance ministers participate in an Extraordinary Eurogroup meeting on 11 February in Brussels. Extensive discussions for an agreement on the Greek program took place during that Eurogroup meeting, in Brussels. (European Council – Council of the European Union Audiovisual Services, Shoot location: Brussels – Belgium, Shoot date: 11/02/2015)
Even without having spent yet a single euro the European Central Bank’s program of sovereign bond buying of €60 billion a month has had an enormous impact on world financial markets. It suppressed the euro dollar parity from the unbearably high levels of 2014 (1.39 on 9 March 2014) to 1.08510 last Friday, the lowest level for eleven years. In this way the euro ceases to be an expensive monetary unit thus greatly helping south Eurozone to increase its exports, slow down its imports and thus produce more jobs and incomes.
Last Thursday after the ECB’s Governing Council meeting in Cyprus, Mario Draghi the central bank President announced that the “expanded asset purchase program to include bonds issued by euro area central governments, agencies and European institutions” will commence on Monday 9 March, that is today. However right after the 22nd of January, when the Governing Council of the central bank revealed its intention to spend €1.14 trillion in total under this program, almost all the financial markets felt the impact.
Everybody needs free euros
Since then two prime effects have materialized. The first is described here above and regards the easing of the euro rate with the other major currencies. The second corollary from ERCB’s money bonanza concerned the price and the yield of Eurozone government bonds. Within weeks the demand for the debt paper of the once crisis hit countries skyrocketed. This trend greatly increased the price of such paper in the secondary markets and of course substantially reduced yields. Short term Irish debt paper yield dropped to 0% (zero) while Spanish, Italian and even Portuguese bonds prices skyrocketed and their yield dropped close to zero. The yield of the two-year bond issued by the Spanish exchequer fell to around 0.08%.
Crazy with south euro area debt
This tendency was aided by the general slump of investment yields in all euro area financial markets. Nevertheless such a spectacular drop of the borrowing cost for the crisis hit euro area countries has to be exclusively attributed to the ECB action and its President Mario Draghi. He has proved to be the driving force behind this major monetary policy change despite the strong opposition by Germany and the Busdesbank, the country’s central bank.
The German Federal Minister of Finance Wolfgang Schäuble and the President of Bundesbank Jens Weidmann have been strongly opposing Draghi and this monetary policies of quantitative easing. Still they were forced to concede that there was no other way to confront the eminent danger of Eurozone falling into the deflationary zone and at the same time fight the fainting economic performance of Eurozone.
Draghi is once more right
Last week’s developments proved that Draghi was one hundred per cent right. The steep fall of yields of the euro area sovereign bonds was an infallible witness that the hardest hit countries by the financial and the real economy crisis like Ireland, Spain, Italy and Portugal can now serve their debts at a much lower interest rate cost. In this way those member states can now spend more government money in order to revive their faltering economies. Of course all that does not apply to Greece. Athens is still lost in the efforts to convince its Eurozone partners to continue supporting her with more soft loans. At the same time the Greek government doesn’t accept the conditions and the terms that go with it.
How much does Greece matter?
Coming back to the mainstream developments, Eurozone’s prospects are not any more affected by the Greek woes. In a peculiar way the Athens problems can help the euro/dollar rate to recede further. The Italian Prime Minister Matteo Renzi at an interview with the Wall Street Journal said that he wants to see soon the euro and the dollar in parity. A one to one rate between the two most important moneys would greatly help Italy and the other south euro area economies to start growing again. Probably Germany would have preferred a return to the expensive euro, but Berlin has grasped that the common European money should serve all and not only the countries with large reserves. In any case many market analysts predict that Renzi’s wish for parity between the European and the American monies is a very plausible prospect.
Good news for the south
Analysts also predict that the ECB sovereign bond buying program can soon turn the yields on Spanish, Portuguese and Italian debt paper to the negative part of the chart. Every reasonable investment manager is currently a big buyer of such securities, because soon similar placements would generate negative returns. Unquestionably, the materialization of negative returns on Italian, Spanish and Portuguese debt paper will be a triumph of Mario Draghi’s policies. In such an event it won’t be only Germany able to borrow at zero or negative interest rate cost.
On top of that this ECB’s ‘expanded asset purchase program’ of €1.14 trillion is indirectly introducing a partial mutualisation of euro area risks. This is the famous Eurobond affair. Many major economists have been suggesting that the issuance of common Eurozone bonds to finance all member states at similar interest rate costs will consolidate the euro area politically and will definitively eliminate the risk of a break up. Again Greece is unfortunately excluded from this horizon.
Towards Eurozone bonds?
The partial introduction of euro area risks mutualisation is realized through a 20% direct participation of ECB in the €1.14 billion bond purchases. To realize this partial risk mutualisation the central bank’s Governing Council of 22 January agreed that 80% of those purchases will be effectuated by the euro area member states national central banks. This means that the risk for those purchases will remain within the national boundaries of member state financial systems. However the rest 20% will be centrally invested by the ECB itself and will be held by the Frankfurt institution. In this way the ECB is spreading all over the euro area the risks stemming from those purchases.
All in all this is a concrete step towards risk-sharing of all euro area debts, a prospect that Germany has been fervently trying to oppose. But it seems that Berlin is finally accepting this prospect as inevitable. As in the case of the United Sates where Washington cannot let one of its 50 states to go bankrupt (California), the Eurozone is now picturing a similar vision albeit still partial and embryonic. In the case of the Cyprus bank run of March 2013 Eurozone let the island’s lenders go bankrupt but safeguarded the sovereign state. Unfortunately in the Greek affair everything is now possible, because ostensibly Athens is putting on the table its own destruction as a major argument.
Leave a Reply