The European Central Bank has launched a programme of emergency sovereign bond purchases in an attempt to pull the eurozone out of the grip of deflation and economic stagnation.
The scheme unveiled by the European Central Bank’s President, Mario Draghi, in Frankfurt this afternoon, was larger than financial markets had been expecting, and instantly gave a boost to company share prices across the Continent.
The price of sovereign bonds of struggling eurozone states such as Spain and Italy also rose in response to the decision, reducing these countries’ effective borrowing costs. Meanwhile, the value of the euro sank against the dollar. The single currency was also down sharply against sterling, representing a boost for UK holidaymakers heading to the Continent.
Mr Draghi said the central bank would purchase €60bn of eurozone sovereign bonds and other safe financial assets, every month between March and September 2016, or until inflation is back to the central bank’s target. That implies total purchases worth around €1.1 trillion, equal to around 10 per cent of the eurozone’s GDP.
In another comforting message to financial markets, which had been concerned that some euro member states’ central bankers might seek to veto the monetary stimulus programme, Mr Draghi said there had been a “large majority” on the ECB's governing council in favour of triggering the bond-buying programme now. “So large that we did not need to take a vote” he added.
The amount of each nation’s sovereign bonds that will be purchased under the scheme will be determined by the relative size of their economies in the eurozone. In a message likely to be aimed at Greece’s voters ahead of Sunday’s election, Greece will, ultimately, be included in the scheme, but only as long as Athens doesn’t breach the terms of its 2010 bailout by the eurozone and the International Monetary Fund. The radical Syriza, which is leading in the polls, is threatening to tear up that bailout agreement.
But in what was likely to have been a concession to Germany, which has deep misgivings about so-called Quantitative Easing (QE), the risk of the sovereign bonds defaulting will not be shared equally between the 19 members of the eurozone. Mr Draghi revealed that 20 per cent of the risk would be collectively held, leaving 80 per cent on the books of national central banks and, as a consequence, ultimately shouldered by national governments.
The objective of the monetary stimulus programme, which is similar to the QE programmes that the US central bank and the Bank of England put in place back in 2009, is to push consumer price inflation in the single currency back up to the ECB’s official 2 per cent target. Prices dipped by 0.2 per cent in December, putting the eurozone in deflation for the first time since the global financial crisis. The eurozone’s GDP has also barely grown since 2008.
“Once again, Draghi delivers” said Christian Schulz of Berenberg Bank. “Expectations have risen considerably in recent days, but the ECB still managed to beat most”. However Jonathan Loynes of Capital Economics sounded a note of caution. “Even sizeable amounts of QE are unlikely to transform the outlook for the euro-zone economy and eliminate the risk of a prolonged and damaging bout of deflation” he warned.
The eurozone came close to a break up in 2012 when the borrowing costs of Spain and Italy shot up to unsustainable levels as investors desperately sold their debt. The panic finally abated when Mr Draghi said in a speech in London that he would do “whatever it takes” to keep the single currency together, and unveiled a separate plan to buy the bonds of solvent states locked out of the bond markets. However, that financial shock still sent the eurozone back into recession and it has struggled to put on sustained growth ever since.
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