Germans will – likely – have to pay for Italian government spending. This is exactly what the Bundesbank was worried would happen. Exactly what they strived to make sure would not happen. And this is exactly what is being propose and almost certainly will happen:
And yet in truth, it should probably have been coined by an Italian. Why? Because the country now owes so much money to the rest of the eurozone it looks about to hijack the whole system.
With Italian debt soaring as it pays for one of the worst outbreaks of Covid-19, on the back of one of the world’s weakest economies, calls are being made for that debt to be ‘forgiven’. Riccardo Fraccaro, the Prime Minister Giuseppe Conte’s closest aide, has started demanding the ‘cancelling of sovereign bonds bought during the pandemic or perpetually extending their maturity’ (which is sort of the same thing, since a debt with a ‘perpetually extended maturity’ is a polite way of saying it is a debt you don’t plan to ever repay). In other words, a huge slice of Italy’s outstanding €2.2 trillion (£1.9 trillion) of debt would simply be magicked away.
The aim of the Germans was that sure, it would be nice to be European and there are benefits – as well as costs – to a joint currency. So, let’s do it. But we have to make sure that we Germans don;t end up paying for the government spending of the spendthrift Latins.
That’s why no fiscal union even if we have monetary such. That’s why not joint borrowing, each state must be responsible for its own fiscal policy. Otherwise we Germans will en up paying Greek pensions and that would never do. Especially since no Germans would be involved in determining how much a Greek pension would be.
At which point, economic disaster and QE. The ECB prints money and, like other central banks, uses it to purchase government bonds. This lowers long term interest rates and forces those looking for yield out along the risk curve.
But, this carries the risk of monetising fiscal policy. If the central bank is to go buy government bonds then what if it were to buy those i good supply? That would mean buying lots of Italian bonds. So, the Bundesbank (to mean the German economic establishment) insists that bonds can only be bought pro rata. Germany is x% of the eurozone, Italy y%, so German and Italian bonds must be bought in x/y portions. As there wren’t that many German bonds around to be bought this limited the amount of QE that could be done.
But it also limited the ability of the ECB to stock up on Italian bonds which pressure to cancel might be applied to.
Second QE needed because virus. At which point the limitations on bond buying by country sorta disappeared. And now look what’s happening?
Italy can’t pay the bonds so they should be cancelled. Given that those not owned by the ECB are owned by banks that means one of the two, without cancellation, is going to go bust. That is, Italian bonds could bankrupt the European banking system just as Greece could have done.
If those bonds are cancelled then all eurozone peeps have to carry the cost of the inflation resulting from that permanently higher inflation rate.
So, now where are we? We’re just where the critics – including the Bundesbank – of the euro said we would be. Everyone else has to subsidise the spendthrift ways of a Latin political class. It’s only take two decades as well.
Aren’t you glad we left?