The European Central Bank surprised markets in early September with the announcement of a bold bond-buying initiative designed to take some of the pressure off the struggling, peripheral euro-zone countries. Having promised in recent weeks that it would do all it could to save the euro, by some accounts the ECB was now delivering. Equity markets in Europe hit 2012 peaks, while the news helped propel the Dow Jones Industrial Average to its highest level since 2007. The euro rallied against the dollar, lifting it from $1.26 to more than $1.285. More to the point, bond yields in Spain and Italy fell sharply.
But despite the euphoric headlines — not least the ones referring to ECB president Mario Draghi as “Super Mario” — there are some doubts about what the ECB’s pronouncements will mean in practice. The ECB said it will buy sovereign bonds in the secondary market in a process known as “outright monetary transactions” (OMTs). Although the OMTs will not provide any fresh cash for beleaguered countries, they should reduce yields to some extent, and as a result, cut these countries’ cost of borrowing. The ECB will buy bonds predominantly in the one-to-three-year maturity range, including longer-dated bonds with 12 to 36 months left to run.
But the ECB has lent the whole exercise an air of mystery by refusing to say how much money it is prepared to commit, and by not giving any indication as to when it will intervene in the market to buy bonds. It will not publish any interest-rate targets, nor discuss what it would regard as desirable spreads over German rates. At a press conference presenting the OMT program, Draghi said only that, in deciding when to intervene, the ECB would be looking at a range of indicators, such as credit default swap spreads and liquidity measures such as bid-ask spreads.
Moreover, although one headline in Germany proclaimed the OMT move as “The Death of the Bundesbank,” the policy doesn’t seem to be the blank check that some had feared — or hoped for. The conditions attached to the bond-buying program may make it less effective than initially expected.
For one thing, countries will qualify for OMT support only if they have applied for help from the European Financial Stability Facility (EFSF) or its intended successor, the European Stability Mechanism (ESM). Spain and Italy have not yet done so. More to the point, qualifying countries must abide by EFSF/ESM austerity conditions, and Draghi said that the International Monetary Fund is “more than welcome” to be involved in “the design of the policy conditionality.”
The ECB president made it clear that each country’s government needed to be involved. “Governments have to undertake the policy reforms,” Draghi told reporters. “We are convinced that no intervention by this or any central bank is actually effective without concurrent policy action by governments.” Indeed, this is no central bank silver bullet; rather, it’s back in the lap of the politicians to sort out the real mess. “[The ECB’s] actions can ultimately do no more than buy time,” says Moody’s Investors Service.
Moody’s is not even certain that Spain or Italy will make the necessary application for bailout support. Bank of America Merrill Lynch, on balance, wasn’t swayed by the rhetoric. Analyst Ralf Preusser said in his client note that, because of the emphasis on “conditionality” attached to the OMT program, “the hurdle for such an application has increased today.” Preusser notes that Draghi said Ireland and Portugal will qualify for support only “when they will be regaining market access.” All in all, therefore, Preusser concludes that the “ECB [is] not about to buy bonds.”
Andrew Sawers is editor of CFO European Briefing, a CFO online publication.