At the beginning of September, the European Central Bank announced an unlimited sovereign debt purchase programme, albeit with conditions. The effects of this measure, which has been interpreted as an important step forward towards stability in the euro area, has been strengthened by the good outcome of other political and institutional events occurring during the same month.
The fear of escalating Euroscepticism has lessened thanks to the clear victory of pro-European parties in the elections in the Netherlands and the favourable ruling given by the German Constitutional Court regarding the European Stability Mechanism (ESM). This mechanism will come into operation as from 8 October although its direct action on bank recapitalization is still unknown. All this has helped the euro area to start the autumn with renewed strength in order to consolidate the foundations for its economic, monetary and fiscal union.
The programme designed by the ECB formalizes the statements made by its President, Mario Draghi, at the end of July and aims to relieve tension in Europe’s sovereign debt markets. To this end, the highest monetary authority will acquire sovereign bonds with maturities of between 1 and 3 years in the secondary markets. However, unlike in previous debt purchase programmes, this discretional aid will depend on certain conditions being met by the benefitting countries. In particular, they will have to request aid from the European rescue funds and, moreover, will have to comply with strict fiscal consolidation programmes and structural reforms.
This measure has helped to temporarily dispel investors’ doubts regarding Europe’s government bond market. As a result of this, the additional yield required for 2 and 10-year bonds of the main European countries compared with their German equivalents has fallen. In the graph above it can be observed that this reduction has been greatest in those countries that are likely to benefit most from the ECB’s debt purchases, mainly Italy and Spain. Moreover, in both cases the design of the debt purchase programme has led to a fall in the upper yield in the case of 2-year bonds.
However, compliance of the fiscal consolidation required in some of the euro area countries is in question. According to the latest ECB bulletin, deviations can be seen with regard to the deficit target in Spain, Italy, Greece and Portugal in 2012. Moreover, with a view to the coming year, it believes that further fiscal adjustment measures will have to be adopted in several countries. In this respect, the publication, at the end of this month, of the 2013 state budgets for Spain, France and Portugal will throw some light on these countries’ strategies to meet their respective deficit targets. In fact, the French and Portuguese Prime Ministers have already provided some details on the new consolidation measures.