By
Tim Duy
:
Mostly quiet on the euro front Monday, but there are some bits
and pieces worth chewing over. To recap, ECB President Mario Draghi
raised expectations that a big plan was in the works to save the
euro. In short, Draghi's commitment to do everything necessary to
save the euro was interpreted to mean that the ECB was prepared to
act as a lender of last resort to bring down yields in struggling
periphery nations.
There is an alternative explanation. Draghi was simply making
some off-the-cuff remarks, saying things he thought he largely said
before, and not intending to illicit the subsequent market
response. If so, market participants may be set up for a phenomenal
disappointment this week.
With that in mind, Spiegel says that Draghi
dropped a bomb on other ECB members
:
It was an illustrious meeting that British Prime Minister
David Cameron was hosting on the evening before the opening of
the Olympic Games in London...
...It was meant to be a day of glamour, but then Mario Draghi,
the president of the European Central Bank (ECB), made a
seemingly trivial remark -- but one that ensured that the 200
prominent guests were swiftly brought back to gloomy reality. His
organization, he promised, would do "whatever it takes to
preserve the euro."
The audience treated the remark as just another platitude
coming from a politician. But International financial traders
understood it as an announcement that the ECB was about to buy up
Italian and Spanish government bonds in a big way. So they did
what they always do when central banks suggest they might soon be
firing up the money-printing presses: They clicked on the "buy"
button...
...Meanwhile, experts at the central banks of the euro zone's
17 member states had no idea what to do with the news. Draghi's
remark was not the result of any resolutions, and even members of
the ECB Governing Council admitted that they had heard nothing of
such plans until then.
This doesn't sound like Draghi has much time to build a
consensus. Interestingly, Spiegel claims that the pressure on
Draghi is becoming unbearable:
A deep-seated feeling of mistrust has taken hold at
Frankfurt's Eurotower, the ECB's headquarters, and even Draghi,
who is normally seen as the epitome of level-headedness among
central bankers, has recently shown signs of nervousness. At a
dinner in early July, the ECB chief and his fellow governors were
discussing the question of whether the ECB's loans to Ireland's
government-owned "bad bank" were consistent with the bank's
current bylaws.
It was a debate among experts, like many before it, but then
something unusual happened: Draghi raised his voice. Such
questions, he snapped at his opponents, could not always be
discussed in exclusively legal terms...
...The ECB president has become thin-skinned and easily
irritated by criticism, especially when it comes from
Germany.
Sounds like the ECB is coming apart at the seems, much like
Europe itself. The story that Draghi was interested in downplaying
"legal concerns" is particularly interesting. It suggests that he
increasingly does not believe he can save the euro in the context
of strict interpretations of the ECB's mandate.
As far as the timing of any action, I caught this in a
Reuters report
:
Both the ECB and the Fed are set to meet this week. The Fed
will start a two-day meeting on Tuesday, with many economists
believing the central bank will wait until September to provide
more stimulus to a faltering U.S. economic recovery. The ECB's
policy-setting meeting on Thursday is receiving more of the
markets' attention after the bank's chief, Mario Draghi, pledged
last week to do everything to save the euro.
But translating his words into action are particularly
important given the threat the long-running euro zone crisis
poses to the global economy.
Bold action by the ECB is at least five weeks away, insiders
told Reuters.
I would really appreciate a little expansion on that last line.
The longer timeline would not be surprising if the Der Spiegel
report is correct and Draghi failed to build consensus before he
spoke.
Finally, on the issue of convertibility and default risk, Joseph
Cotterill at
FT Alphaville
says:
The ECB could now see a risk to its monetary policy -
conducted in euros - from market pricing of peripheral bonds
which assumes they won't eventually be paid back in euros. And it
could now act on this risk. However it might do this and with
whatever facilities, it feels conceptually different to the
actions which the market largely expects, which are versions of
credit easing or liquidity for sovereign debt (the SMP).
FT Alphaville sees this as more about convertibility than
default risk, different than I suggested Sunday. I think though
that we both agree this may be crucial to understanding Draghi's
policy intentions. Cotterill also cites research on quantifying
this risk, and thus what the ECB is prepared to do. maybe less than
the market expects. I think following FT Alphaville on this subject
(and many more, of course) is well worth the time.
Bottom Line: Seems like a lot of uncertainty heading into this
ECB meeting, despite financial market participant's understandably
crystal-clear interpretation of Draghi's now famous remarks.
See also
Why The Stock Market Keeps Shrugging Off Bad
News
on seekingalpha.com