Monday, August 6, 2012

Mario Draghi Cannot Save the Euro

by Simon Johnson


August 6, 2012

European Central Bank President Mario Draghi has been making pronouncements that many have interpreted as positive for the future of the euro.

I think his words mean things are going to get ugly.

On July 26, Draghi said his institution would do “whatever it takes” to preserve the euro, and reinforced this with a nice turn of phrase: “Believe me, this will be enough.” He followed this up last week with a more official statement that the ECB “may undertake outright open market operations of a size adequate to reach its objective,” signaling that the bank is preparing to buy more bonds to lower the borrowing costs of struggling governments such as Italy and Spain.

Optimists hope that Draghi is trying to put an end to the policy uncertainty that has characterized the euro crisis. In the run-up to 2008, many investors thought there were big potential bailouts implicit in the structure of the currency union -- a view reflected in the nearly identical yields on German, Greek, Italian and Spanish bonds. This confidence collapsed as events in Greece, Ireland and Portugal demonstrated that the ECB would not support all government debt irrespective of the circumstances. Now, the logic goes, if Draghi could just restore the promise of unconditional and unlimited “support,” he would put the genie back in the bottle.


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