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20 Jan 2015 By Neil Unmack

Many countries, one currency. The euro has always been a balancing act for the European Central Bank and the national governments of the member states. The need to keep everyone reasonably happy explains why the ECB is expected to shunt off the purchase of sovereign government bonds to the members’ central banks. The decision, which could be announced on Jan. 22, has excited exaggerated hope and fear.

The hope is that the outsourcing of credit risk will appease opposition in northern Europe, especially in Germany. Bond purchases for newly created cash sound like dangerous direct monetary financing of the government. But it looks different, if the national central banks are exposed to the potential losses from government bond defaults, rather than sharing them with other central banks.

It is not that simple. The whole euro zone guarantees the value of debts between holders in different member countries, so any newly minted money that crosses borders – say, due to purchases from foreign investors – will still be protected. A national central bank in trouble from a sovereign default would counter collapsing markets and deposit flight with more new money, creating more guaranteed cross-border liabilities. The euro zone might have to choose between agreeing to support the central bank to honour those liabilities, or taking severe losses if the zone broke apart.

The fear is that do-it-yourself national QE is less a useful fig leaf than a wedge which will divide the euro zone. It should still have some positive effect on asset prices, so long as investors believe that the ECB and the major members will stay committed to the single currency. Falling yields on the safest assets, like German bunds, will push investors into debt from riskier assets.

Still, the national purchases are ungainly. The more debt central banks buy, the more investors may worry about their holdings of risky debt. That could limit the volume of purchases. Also, the plan sends two disquieting messages: that euro zone members don’t trust each other and that monetary policy is fragmenting. The net effect of national QE is still likely to be positive, but the effort to avoid an unpalatable division could end up making one more likely.


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