The European Central Bank took the ultimate policy leap on Thursday, launching a government bond-buying program which will pump hundreds of billions in new money into a sagging euro zone economy.
The ECB said it would purchase sovereign debt from this March until the end of September 2016, despite opposition from Germany’s Bundesbank and concerns in Berlin that it could allow spendthrift countries to slacken economic reforms.
Together with existing schemes to buy private debt and funnel hundreds of billions of euros in cheap loans to banks, the new quantitative easing program will release 60 billion euros ($68 billion) a month into the economy, ECB President Mario Draghi said.
By September next year, more than 1 trillion euros will have been created under quantitative easing, the ECB’s last remaining major policy option for reviving economic growth and warding off deflation. The flood of money impressed markets: the euro fell more than two U.S. cents to $1.14108 on the announcement, and European shares hit seven-year highs.
“All eyes were on Mario Draghi and he has delivered a bigger bazooka than investors were expecting,” said Mauro Vittorangeli, a fixed income specialist at Allianz Global Investors, adding that the news marked “an historic crossroads for European markets“.
The ECB and the central banks of euro zone countries will buy up bonds in proportion to its “capital key”, meaning more debt will be scooped up from the biggest economies such as Germany than from small member states such as Ireland.
The prospect of dramatic ECB action had already prompted the Swiss central bank to abandon its cap on the franc against the euro. Denmark cut its main policy interest rate on Thursday for the second time this week after the ECB announcement, aiming to defend the Danish crown’s peg to the euro.
Draghi has had to balance the need for action to lift the euro zone economy out of its torpor against German concerns about risk-sharing and that it might be left to foot the bill.
WILL IT WORK?
Economists noted that Draghi had said only 20 percent of purchases would be the responsibility of the ECB. This means the bulk of any potential losses, should a euro zone government default on its debt, would fall on national central banks.
Critics say this casts doubt over the unity of the euro zone and its principle of solidarity, and countries with already high debts could find themselves in yet deeper water.
“It is counterproductive to shift the risks of monetary policy to the national central banks,” said former ECB policymaker Athanasios Orphanides. “It does not promote a single monetary policy. This path toward Balkanisation of monetary policy would signal that the ECB is preparing for a break-up of the euro.”
A German lawyer who has been prominent in attempts to halt euro zone bailouts said he was already preparing a legal complaint against the bond-buying program.
Draghi said the ECB’s Governing Council had been unanimous in agreeing that the step to print money was legally sound. There was a large majority on the need to trigger it now, “so large that we didn’t need to take a vote”.
“There was a consensus on risk-sharing set at 20 percent and 80 percent on a no-risk-sharing basis,” he added.
One euro zone central banking source said five policymakers opposed the expanded asset-purchase plan: the central bank chiefs of Germany, the Netherlands, Austria and Estonia, along with Executive Board member Sabine Lautenschlaeger, a German.
Guntram Wolff, head of the Bruegel think tank, said the plan’s size was impressive. “But the ECB has given the signal … that its monetary policy is not a single one. That’s a bad signal to markets and a bad signal to everybody in the euro zone.”
The ECB is trying to push euro zone annual inflation back up to its target of just below two percent; consumer prices fell last month, raising fears of a Japanese-style deflationary spiral. But there are doubts, and not only in Germany, over whether printing fresh money will work.
Most euro zone government bond yields are at ultra-low levels and the euro had already dropped sharply against the dollar. Lower borrowing costs and a weaker currency could both help to boost economic growth but there is a question about how much further either can fall.
The ECB could create the basis for growth, Draghi said, but he put the onus on governments to follow. “For growth to pick up … you need structural reforms,” he said. “It’s now up to the governments to implement these structural reforms. The more they do, the more effective will be our monetary policy.”
Draghi was echoing the view of German Chancellor Angela Merkel, who said: “Regardless of what the ECB does, it should not obscure the fact that the real growth impulses must come from conditions set by the politicians.”
The ECB has already cut interest rates to record lows and left its refinancing rate, which determines the cost of euro zone credit, at 0.05 percent.
Greece and Cyprus, which remain under EU/IMF bailout programs, will be eligible for the ECB program but subject to stricter conditions.
In practice, Greek debt does not currently qualify as another rule stipulates that a maximum 33 percent of the bonds issued by any country may be bought. The ECB and other euro zone central banks already own more than this, although they may start purchases once enough of their Greek bonds have matured to take the total below the 33 percent threshold.
Greece votes on Sunday in an election where anti-bailout opposition party Syriza is on track to emerge as the biggest party in parliament.