ECB intervention targets crisis symptoms over causes

August 09, 2011 2:48 PM

After US debt lost its AAA status last Friday in one of the more worrying announcements since the dark days of the financial crisis, all eyes were fixed yesterday on the stock markets of debt-ravaged Spain and Italy. The European Central Bank (ECB) made a desperate attempt on Sunday to try and shield the Eurozone from the impending Wall Street shockwave by buying Italian and Spanish bonds in order to boost prices, create stability and restore confidence.

The ECB’s move achieved its objective - stabilising Italian and Spanish long-run debt costs, whose 10-year bond yields both dropped towards 5% from 6.2% and 6.3% respectively. This represents an edging back from the 7% precipice (a similar yield to that of Ireland, Portugal and Greece when they received bailout funds).

But within little over two hours of market trading, evidence of the ECB’s intervention had evaporated on other markets. The FTSE fell below its opening value of 5,207, losing the gains of the morning, before gradually sliding for the rest of the day to close at a one-year low of 5,068. This was an overwhelmingly clear signal from the markets that although the ECB had averted the need for an immediate bailout, the true cause of the wider crisis – a simple lack of confidence in the face of an accumulating debt mountain that shows no sign of subsiding – remains intact.

As such, the short-term effect won’t last if serious action isn't taken on the underlying economic and fiscal weakness of the eurozone periphery. Buying Italian and Spanish bonds will leave the ECB itself even more vulnerable if those problems aren't addressed.

More action on the symptoms is simply no substitute for a genuine commitment to address the causes: the terminal dysfunction of the euro and the high debt and expected low growth which are smothering attempts to rebuild the credibility of the latest bailout suspects.

Photo from Flickr user jurjen_nl.After US debt lost its AAA status last Friday in one of the more worrying announcements since the dark days of the financial crisis, all eyes were fixed yesterday on the stock markets of debt-ravaged Spain and Italy. The European Central Bank (ECB) made a desperate attempt on Sunday to try and shield the Eurozone from the impending Wall Street shockwave by buying Italian and Spanish bonds in order to boost prices, create stability and restore confidence.

The ECB’s move achieved its objective - stabilising Italian and Spanish long-run debt costs, whose 10-year bond yields both dropped towards 5% from 6.2% and 6.3% respectively. This represents an edging back from the 7% precipice (a similar yield to that of Ireland, Portugal and Greece when they received bailout funds).

But within little over two hours of market trading, evidence of the ECB’s intervention had evaporated on other markets. The FTSE fell below its opening value of 5,207, losing the gains of the morning, before gradually sliding for the rest of the day to close at a one-year low of 5,068. This was an overwhelmingly clear signal from the markets that although the ECB had averted the need for an immediate bailout, the true cause of the wider crisis – a simple lack of confidence in the face of an accumulating debt mountain that shows no sign of subsiding – remains intact.

As such, the short-term effect won’t last if serious action isn't taken on the underlying economic and fiscal weakness of the eurozone periphery. Buying Italian and Spanish bonds will leave the ECB itself even more vulnerable if those problems aren't addressed.

More action on the symptoms is simply no substitute for a genuine commitment to address the causes: the terminal dysfunction of the euro and the high debt and expected low growth which are smothering attempts to rebuild the credibility of the latest bailout suspects.

Photo from Flickr user jurjen_nl.

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