Draghi Says ECB Stands Ready to Buy Bonds as economoy weakens

I guess he doesn’t realize the bond buying is about solvency, not aggregate demand.
Probably didn’t teach that at MIT or any of those other fancy places:

He was born in Rome, where he studied at the Massimiliano Massimo Institute and graduated from La Sapienza University under the supervision of Federico Caffè. Then he earned a PhD in economics from the Massachusetts Institute of Technology in 1976 under the supervision of Franco Modigliani and Robert Solow. He was full professor at the Cesare Alfieri Faculty of Political Science of the University of Florence from 1981 until 1994[3] and fellow of the Institute of Politics at the John F. Kennedy School of Government, Harvard University (2001).

Draghi Says ECB Stands Ready to Buy Bonds as economoy weakens

(Bloomberg) European Central Bank President Mario Draghi said the economic outlook is worsening and the bank stands ready to activate its bond-purchase program if governments fulfil the necessary conditions. “We are ready to undertake” Outright Monetary Transactions, “which will help to avoid extreme scenarios,” Draghi said. “It’s entirely up to Spain and the Spanish government to take the decision,” Draghi said. At the same time, “since the OMT announcement there have been a series of improvements” on financial markets, including “a return of flows from the rest of the world,” he said. “Certainly the outlook is being revised and there’s a picture of a weaker economy,” he said. “The Governing Council decided to keep interest rates unchanged. We have not discussed what we’re going to do next year in terms of monetary policy.”

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13 Responses to Draghi Says ECB Stands Ready to Buy Bonds as economoy weakens

  1. Erik Jochem says:

    @Walter Austerity within Europe will prevail until huge wage cuts have been realized in Spain, Italy and France in order to counterbalance relative German productivity gains during the last ten years or so. Austerity creates unemployment on large scale, but generalized unemployment is the only setting in which you can put through massive wage-cuts as necessary in the eyes of the eurocrats to “save” the Euro. Conditonality is surely part of that scheme, as mou’s with the commission, imf and ecb always contain wage cuts as a part of the deal. Will Spain or Italy apply for the ESM ? If not and no wage cuts of scale will take place in Italy, Spain and France the sentiment will rise that the Euro might not hold after all. These are the risks before conditionality plays. The risks from after conditionality therefore still seem very far away in my eyes.

    Reply

  2. walter says:

    Warren,
    If there is no solvency issue anymore in the eurozone then why bonds of the members do not yield the same?

    Reply

    WARREN MOSLER Reply:

    good point. it was my take.

    addressing your point: the market perception/pricing of solvency risk has declined

    Reply

    Erik Jochem Reply:

    @walter,

    what we actually see with yields is the effect of having announced OMT. A precondition for actually benefitting from OMT is adhering to the EFSM/EMS regime actually including bond purchases on the primary market by these institutions. Once this precondition fullfilled (with more austerity to come as a probable counterpart though) and EFSM/EMS being active on the primary market yields of participating countries will be identic I think if politically wanted.

    Reply

    walter Reply:

    @Erik Jochem, Yes, it’s clear that merely the announcement did the trick till now.
    However there are still a few question marks:
    1. The EFSF/ESM is a limited pot, without banking license. How the purchases are going to be divided, how long can this limited fund last?
    The banks can fulfill the role of lender of last resort, but it makes the situation dependent on ability and willingness of the banks. Please note in this context the current trend of nationalizations of banks in the euro zone.

    2. It all works under the assumption that the member states’ govts will play along. But what will happen if one day, let’s say Italy under Berlusconi, will say ‘no more austerity, basta!’?
    The current position of the ECB is that it will then have to make a choice between letting the crisis escalate or dropping conditionality.
    Seems to me that the market currently underestimates this political risk. How do you see this?

    Reply

    Erik Jochem Reply:

    @walter, sorry Walter, my reply is stated under @Erik Jochem.

    Erik Jochem Reply:

    @Erik Jochem,

    @2: It’s alas common view in Europe that whoever decides against austerity decides against membership in the Euro.
    That’s why the main public – but pretty isolated – voice against autsterity, German Heiner Flassbeck from UNCTAD, advocates the southern countries in order to avoid further austerity should alltogether leave the Euro.
    That’s also why Berlusconi’s anti-austerity stand implying in the eyes of the public that Italy would have to leave the Euro in my eyes has no chances to prevail against Monti.
    Will Spain or Italy therefore adhere to EFSF/ESM de facto ceading national soverainty to the Commission and the IMF ?
    My clear guess is no. As a political design to bluff Spain and Italy into EFSM/ESM, OMT therefore seems bound to fail.
    The lack of movement in the direction of EFSF/ESM by Spain and Italy seems to be confirmed by Jean-Claude Junker stating the EU has been” too harsh” towards the South and Olli Rehn defining his role as “building bridges” towards the South.
    Will the ECB buy Spanish and Italian bonds “if necessary” without OMT conditions being fullfilled ?
    Having bought Greek bonds whenever deemed necessary could the ECB really refrain from intervening in favor of Spain or Italy pushing them down the road to leave the Euro ?

    @1: I agree with the technical weaknesses you describe. However EFSF/ESM would not necessarily have had to buy bonds themselves. They rather could have confined to the role of deterring bids to rise beyond a certain announced yield ceiling standing ready to buy only if the ceiling would be reached. Thus the designed OMT mechanism on an auction by auction basis could have led to a de facto control of yields almost comparable with US-bonds. Don’t you agree ?
    OMT being de facto dead (my guess) the crucial question remains to which extent sole ECB-intervention on the secondary market (without possible intervention of EFSF/ESM on the primary market) confers a hold on yields on the primary market. As I understand it interventions of this kind create general confidence but leave the last word on yields to the discretion of the auction market.
    In other words even systematic interventions of the ECB on the secondary market are no remedy to the institutional flaws of the Euro-System imposing serious fundraising obligations on the Euro states.
    Or am I wrong ?

    Reply

    walter Reply:

    @Erik Jochem, Jochem, sorry for late reply.
    I think a cap on yields announced by the ECB would work. Markets (primary, secondary) know they cannot fight the cb. However that is not what they did. They made it conditional. To my opinion the problem is in this conditionality. The condition of austerity is a guarantee for downward spiral. With deficits going up instead of down and gdp shrinking they won’t be able to bring down debt/gdp as they want and consider necessary. Until now it does not look like they will change the austerity policy or change the debt/gdp target. I fear they will consider themselves to be left with only one option, i.e. writing down debt (haircuts, PSI, taxing bondholders).

  3. y says:

    Warren,

    Would you say that the ECB “guarantee” means that eurozone government bonds are currently a good bet for interest income?

    The Spanish, Italian and Portugese 10Y bonds all have pretty high yields, and he euro currency is reasonably stable…

    Reply

    Ben Johannson Reply:

    @y, Not to speak for Warren, but what happens to a bondholder if the country she bought bonds from decides to leave the euro? It’s going to happen sooner or later because the Troika insist on punishing austerity along with OMT. I wouldn’t touch eurozone bonds for all the tea in China.

    Reply

    WARREN MOSLER Reply:

    agreed with that risk

    Reply

  4. roger erickson says:

    What happens when methods momentum for obtaining “credentials” points in a direction orthogonal to the direction of group adaptive rate?

    Credentials become maladaptive – and to get one you must oppose group benefit. That’s a trap that locks class-war into unsustainable paths.

    The insidious evil of credentialism.
    http://fabiusmaximus.com/2012/10/23/credentialism-climate-economics-44425/

    In a complex organization like a culture or economy, a whole series of consequences then unfold.

    1) why are “leaders” with “credentials” leading over a cliff?
    (sum answer: we’re choosing leaders poorly)

    2) ok, WHY are we selecting the wrong leaders?
    (sum answer: utilizing wrong methods;
    .. letting groups “buy” leadership positions)

    3) ok, WHY are we persisting in using the wrong methods?
    (sum answer: we’ve been distracted by “credentials” vs
    ..following changing group feedback about outcomes;
    ..basically, we took our eye off the prize)

    4) ok, so WHY did our electorate take our eyes off the group prize?
    (sum answer: we got fat & lazy; we presumed that past practices were suddenly predictive of future performance in an unpredictably changing world; we followed a tangent to an unprectably changing survival path)

    5) ok, but WHY did past group success trigger complacency, instead of EVEN MORE exploration?
    .. Well, that’s the 100 dollar question. With human populations this big & successful, we’re stuck half way through an inflection point in HOW our cultures self-organize. Pirsig might agree that we’re still training our youth to PRACTICE sequestering & hoarding static value (physical assets; capitalism) even though it’s long past clear that dynamic value far exceeds the potential of static value.
    http://mikenormaneconomics.blogspot.com/2012/11/fixing-bayonets-and-charging-toward.html

    We’re still PRACTICING static value, even while TALKING dynamic value.

    Ergo, the proponderance of our methods that are obsolete is close to or past a tipping point. A corollary is that culture change now occurs considerably faster than human generations turn over. Accidentally, one sidelight of Warren’s many theses on currency operations is very adaptive, for unexpected reasons. We really SHOULD allow literally EVERYONE to retire considerably earlier – say by 45? – ESPECIALLY out of policy positions. We need faster and more distributed turnover, just to get older paradigms out of the way faster.

    We need a bias to action. Seems obvious if we admit our goal is a faster car (Cultural Adaptive Rate).

    Viva la Mosler Cultural Motors!!!

    “The Engine of Change”

    Reply

    roger erickson Reply:

    @roger erickson,

    Actually, our cultural engine is fine. We just need to lighten the CAR. :)

    Reply

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