Just do it
The European Central Bank has done a pretty good job since the onset of the euro debt crisis, even bending its rules to avoid a major disaster. But as the crisis threatens the region’s major economies, it needs to step forward and state clearly that buying sovereign bonds in the secondary market is within its remit. In doing so, the ECB would at last assume the mantle of lender of last resort to the euro zone’s sovereign bond market.
For months, European leaders have been going around in circles. They are trying to make up for the lack of a central authority that would guarantee that insolvency in one country does not take down other, stronger economies. They have also concocted a proxy, the European Financial Stability Facility, to make up for the incomplete architecture of the euro system. The EFSF will soon be able to buy sovereign bonds. It would be better to cut out the middle man. The ECB should deploy its technical capacities and unlimited firepower to do the job itself.
True, the ECB is already buying Spanish and mostly Italian bonds, but reluctantly because of its board’s divisions. German politicians and central bankers remain fiercely opposed to what they fear is a step towards debt mutualisation.
Bond buying is good policy in as much as it helps countries with finances that are basically sound to weather sudden liquidity squeezes. Without it, problems could quickly degenerate into full-blown solvency issues as yields shoot up. But it can only work to limit wild gyrations in bond markets -– not as a way to blindly subsidise fiscal truants. For that the ECB can tailor its interventions to ensure that countries in need of reform continue to feel financial pressure.
For the euro zone as a whole, a simple statement that the ECB will use its balance sheet to prevent contagion would have a powerful deterrent effect. The point of bond buying as a normal policy tool is that by itself, it reduces the need for intervention.