At the start of the summer, Europe stood at the edge of the abyss.
The cost of borrowing to southern European sovereign states was soaring. Speculators were rubbing their hands in glee at what appeared to be a one-way bet. Commentators wondered what a collapse of the eurozone would feel like.
The legal consequences of a meltdown, its impact on business across the world, appeared awesome.
Europe’s leaders appeared to be floundering, one apparently pointless summit after another. The only real productivity appeared to come from the chefs servicing the dietary needs of the chattering participants.
As 2012 disappears over the horizon, the challenges facing the continent remain formidable: The eurozone is in recession. Youth unemployment is over 50% in some southern European countries. The prospect of a break-up of Spain can no longer be dismissed, given recent events in Catalonia.
Italy could be back in the melting pot after the announcement of the impending resignation of its respected technocrat prime minister, Mario Monti.
The fear is that a new government could resile from pre-existing commitments, pitching the bond markets back into a state of turbulence.
Choppy waters lie ahead — there could yet be need for those bags.
But, in recent months, a sense of drift has dissipated and in large measure this is down to the steadying hand of European Central Bank head Mario Draghi, and his willingness to face down the monetary hawks in general and Germany’s Bundesbank in particular.
Draghi acknowledges the turnaround in fortunes owes much to the efforts of European leaders at the Madrid summit in June.
It was at this gathering that a real commitment was secured from the leadership to underpin the financially fragile economies.
Ireland received special mention, raising hopes of a deal on our huge legacy bank debts by the end of October, hopes which would eventually be dashed.
Negotiations on this front will drag on into 2013 and into the Irish presidency.
Last January, Draghi had barely got his foot in the door of the offices of the ECB President in Frankfurt. It was soon clear he would receive a fiery baptism. The financial markets were fretting about the future of the European banking system, while speculators piled in taking what appeared for a while to be a one-way bet against distressed sovereigns.
Draghi’s response was to put in place the so-called “Long-Term Refinancing Operation” for banks, designed to provide them with short-term liquidity forup to three years, to break the “doom loop” between struggling banks and sovereigns.
Critics argued the measure would not suffice and that longer term financing should have been made available. However, the measure succeeded in settling down speculation concerning the continuing funding of European banks, but it did not reduce, significantly, the spreads in yields between the indebted periphery countries, and Italy, and the stronger economies of the northern eurozone and of Germany, in particular.
As the Financial Times noted, “by spring 2012, these spreads had become life-threatening”.
Draghi tackled this problem straight on, both through a series of sharp statements, signalling intent to the markets, and by initiating what is known as the OMT, the Outright Monetary Transaction.
In effect, the ECB offered to step in to buy unlimited quantities of sovereign bonds with a maturity of less than three years on condition that the states concerned adhered to a set of fiscal conditions. In effect, this was a disguised bailout . The obvious beneficiary was Spain, which has found itself under increased pressure as its economy has imploded. Countries have yet to avail of the OMT, but its very existence has served to drive back the speculators — at least for now.
Draghi himself stepped up the rhetoric. In July, he vowed “to do what it takes” to save the euro, adding for effect: “And believe me, this will be enough.”
He has shown that the euro is a different beast to an embattled currency of a mid sized sovereign. Its sheer size, and the scale of Europe’s albeit sluggish economy, means that the ECB president still has real clout, once he can rely on Europe’s leaders.
The vital, if largely silent, role played by Angela Merkel has been crucial in this regard.
Draghi has found himself under sustained attack in the coarser sections of the German media and from within Merkel’s ruling party. He was described as a “forger” by the general secretary of the Bavarian Social Union, a coalition partner.
Draghi is well aware of Merkel’s delicate position at a time when the German electorate fear the prospect of inflation and further bailouts to unreconstructed southern European states. He has taken care to stress his commitment to the policy of fiscal rigour and austerity, favoured — in public, at least — by Merkel.
He has also managed to project an air of confidence at his monthly press conferences, which are usually dominated by German financial journalists.
Draghi’s role with respect to Ireland, and the Government’s long-stated ambition to secure a deal on legacy bank debt, has been more ambivalent.
He has made clear the ECB will not enter an agreement which could be interpreted as being in breach of Article 143, the clause which forbids the bank from entering into bailouts. He echoes the German line on Ireland — honeyed words of goodwill, but nothing tangible.
The Government badly needs something more tangible by the end of March.
KBC Bank economist Austin Hughes, for one, believes a deal on the Anglo promissory notes can be cobbled together, not least because Germany genuinely appear to wish for an Irish success story involving an exit from the bailout.
Europe’s leaders are past masters at cobbling together deals which appeared to have been ruled out previously. Witness Greece’s bailouts, not to mention the dressed up aid for Spain.
The year ahead will be a busy one for Draghi as the ECB moves to begin assuming responsibilities for banking supervision across much of the zone. This is seen as the vital building block towards a banking union, in turn, a key step in the direction of fiscal union.
Draghi has predicted a modest rebound in the eurozone economy after six months of recession. He must hope that this will come to pass given the increased signs of restiveness and indeed anger among the populations in southern Europe in particular.
Europe is by no means out of the woods and on the road to safety. Events have a habit of derailing the finest of calculations. But for now, Draghi can look back his first year as one in which the job was well done and disaster was averted. Not a bad score sheet.
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