Chart of the Week: ECB Will Do “Whatever It Takes”
The ECB president has announced a bond-buying plan to help Spain and Italy with their borrowing costs at the short end of the yield curve, triggering a stock market rally but leaving questions about how the plan will work.
European Central Bank President Mario Draghi has pledged to do “whatever it takes” to preserve the euro. That statement, combined with a declaration that the ECB will venture into the open market to buy bonds issued by the debt-laden governments of Spain and Italy to help them curb their soaring borrowing costs. In recent weeks, yields on both Spanish and Italian bond yields have been flirting with and occasionally breaking above the 7% level beyond which it is believed both will have difficulty financing their respective debt. That’s the level that they crossed during last summer’s European market panic, and that’s the level that once more is arousing alarm amongst global policymakers and investors. Below are the charts to watch as the issue continues to dominate market sentiment; collectively, these make up this week’s Chart of the Week.
Draghi’s new initiative, announced last week, helped lay the groundwork for big market gains Friday and earlier today. But it is just the beginning. Both political leaders and market participants want more in the way of definite action on the part of central bankers and government leaders in Europe regarding the eurozone crisis. While Draghi’s apparent commitment helped stem a bond market meltdown that had been brewing in Spain and Italy, it fell short of the immediate and definitive action that investors have been yearning to see. Draghi said that the ECB will develop a detailed plan in the coming weeks, and determine how much cash to invest in the bonds. By Friday, however, initial uncertainty had given way to a greater degree of confidence (reflected in financial markets) that Draghi’s plan truly may be the first step toward a lasting solution.
Still, it is just a first step. Germany’s Bundesbank remains one of the most powerful members of the ECB’s governing council, and its members have spoken out against the idea of a bond-buying plan. Those reservations won’t vanish overnight, and may well affect the shape of whatever specific program emerges. “It’s clear and it’s known that (Bundesbank head Jens) Weidmann and the Bundesbank …have their reservations about programs that envisage buying bonds,” Draghi acknowledged.
While outvoted when it came to support for a program, Germany may well pick up support from other nations when it comes to determining the shape of the program that ultimately is implemented. One fact that Draghi has made clear is that any ECB bond buying program will concentrate at the shorter end of the curve, showing up in the chart in the bottom on the right of the package of four above, which depicts the steepening of the yield curve. Pushing down the short-term rates enables Spain and Italy to continue to fund themselves by issuing fresh debt – but maintains the long term pressure on both countries to adopt austerity programs and pursue economic reforms of the kind that German policymakers and politicians insist are non-negotiable.
Spain and Italy also aren’t likely to be completely content with terms and conditions that will be the price of the ECB’s bond purchase program. Draghi made it clear that the central bank will act only if eurozone governments kick in their own rescue funds, and only in response to a specific request from Spain. Effectively, that means Spain must humble itself in front of its eurozone peers and then will have to accept conditions and endure oversight by the ECB and those peers. The political stigma won’t be easy to swallow.
The remarks by Draghi came following last week’s ECB meeting, which wrapped up with the eurozone’s central bank opting to keep the key short-term interest rate at only 0.75%.
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