As the euro area walks step by sickening step toward an avoidable economic catastrophe, German Chancellor Angela Merkel continues to oppose forthright action by the European Central Bank.
She argues that it would be wrong to guarantee sovereign debt -- with printed money, no less -- and would wreck the bank’s credibility. It would also be illegal, she insists: The relevant EU treaty forbids it.
She’s wrong. The ECB can and must play the decisive role in stabilizing Europe’s unraveling economies. The central bank has the resources to stand behind the debts of euro-area governments precisely because it’s the only institution in the unique position of being able to create its own.
The treaty says that the ECB cannot lend to countries directly -- but the bank could act indirectly in any number of ways, such as intervening in the secondary markets or channeling assistance through an intermediary such as the International Monetary Fund. Remember that the ECB has already bought some government bonds in the secondary markets, albeit on a modest scale.
The letter of the treaty is also no obstacle to promising larger purchases, if needed. Such a pledge, if believed, might render intervention on a huge scale unnecessary. The assurance by itself would steady the markets’ nerves.
What about the spirit of the treaty? Here, we must admit, Merkel has a point. Many of the euro’s architects did wish to deny EU member governments recourse to central bank debt financing -- or quantitative easing, as it’s politely called in the U.S. But the current emergency simply wasn’t foreseen in those discussions. If these aren’t “unusual and exigent” circumstances (in U.S. Federal Reserve parlance) calling for extraordinary measures, it’s hard to know what would qualify.
For sure, once ECB intervention had contained the immediate crisis, difficult questions would arise about the future of the monetary union. Knowing that the ECB would act as lender of last resort might incline governments to overborrow all over again (the dreaded moral hazard). The essential quid pro quo for ECB action on the needed scale is a tougher system of oversight of budget deficits and meaningful sanctions against violators. That’s no small challenge, but it can wait.
As we have long argued, the ECB must act as lender of last resort to Europe’s governments. Truly insolvent states such as Greece will have to default and restructure their debts, which can be done in an orderly way so long as the euro doesn’t split. The crucial thing now is to stand behind the sovereign debts of the rest of the system. There, solvency is not the issue, and the panic can be stemmed.
Without ECB action, though, the panic is spreading. At a debt auction yesterday, Spain had to offer a yield only fractionally below 7 percent -- the threshold at which Ireland and Portugal had to seek bailouts -- to sell its government bonds. Its access to market funding is in jeopardy. Increasingly, the European core is being sucked in, too. On the same day, the interest rate on 5-year French bonds rose to nearly 3 percent, a surge of half a percentage point.
In the immediate term, honoring the spirit of the treaty as originally conceived risks tearing down the very thing the treaty was intended to build: Europe’s single currency. If the price of preserving the ECB’s credibility is to destroy the monetary union over which the ECB presides, what’s the point? Merkel may be ready to burn the village to save it. Europe’s other leaders should tell her firmly, no thanks.
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