Europe Moves to a New Stage in Its Crisis

Either The European Central Bank Steps In or . . . . (You don’t want to hear the “or”)

Last week Europe fixed its economic and political problems with Greece and Italy by having Greece and Italy usher in coalition governments and adopt austerity programs which, if everything works out as expected will further decimate the economies of those two countries, but not for a while.  Markets were expected to stabilize.  Markets didn’t.

Turmoil Spreads in Europe

Bond Market Selloff Hits Nations Seen as Healthy, Raising Specter of Contagion

This is not the headline everyone wanted to see.  And these are not words anybody wants to read.

Europe's debt troubles on Tuesday spilled over to top-rated nations that had been largely untouched by the crisis—including Austria, the Netherlands, Finland and France—in an ominous sign for European policy makers.

At this point the problem is rising beyond the ability of a single European country to fix, even an economy as strong as Germany’s.  The only institution large enough, strong enough and currently in place that can get Europe through this problem is the European Central Bank, essentially the European version of the Federal Reserve System.  The ECB is going to have to step in and purchase the debt of European countries.  Of course, there is one problem, namely that the ECB is forbidden to make direct purchases of the sovereign debt.

So what happens if the ECB doesn’t act, and no one else steps up, what is the “or”?

If investors go on a buyers strike of European debt, that could raise borrowing costs, and eventually threaten the solvency of much of the euro zone. That could destabilize the global financial system and damage world-wide economic growth.

And what are the chances of the ECB stepping up to the plate?  Well right now they are not even in the on-deck circle.

The chorus of economists and investors calling for Europe's central bank to intervene much more decisively in bond markets is growing. They say the ECB should adopt the role of lender-of-last-resort to euro-zone governments in order to convince investors it's safe to buy government bonds. But the ECB insists that its mandate is limited to fighting inflation.

Some suggest the ECB could be staying on the sidelines to keep up pressure on politicians, specifically in Italy, to make their economies more competitive and cut their debt loads.

Germany's central bank, the Bundesbank, and the country's economic and political mainstream are vehemently opposed to a more activist ECB, arguing that large-scale bond-buying would fuel inflation and turn the central bank into a plaything of spendthrift Southern European politicians. 

Have a nice day everyone