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Two years ago Mario Draghi saved a continent with three words, “whatever it takes”. The European Central Bank (ECB) president thus signalled, putting it crudely, readiness to print as many euros as required to prevent the bankruns and debt defaults that threatened the single currency. The printing presses didn’t actually have to whirr, because – reassured that the worst case would not be allowed – the markets calmed down, borrowing costs fell, and everything got more manageable.
Or at least that is the simplified story. An Italian at the helm of an institution where German power loomed large, Mr Draghi could not be seen to be allowing shaky banks and spendthrift governments off the hook, so he chose his timing carefully, and sealed an unstated grand bargain. In return for northern Europe’s acquiescence in expansive monetary policy, the south would continue to swallow the painful prescriptions of austerity. The most obvious danger at the time appeared to be that the politics would come unstuck. They nearly have at times, as when the anti-austerity comic, Beppe Grillo, ran the Italian mainstream within inches of its life. The continent hammered the establishment in the Euro-elections, a resurgent French Front National remains a particularly sinister threat, and many a European street has thronged with protest. But in the end – as so often – orthodox opinion has mostly prevailed.
The imminent threat to the 2012 Draghi deal is not so much the politics, but rather the economics. The backdrop to the ECB’s move last week to start buying up certain private sector securities is stubborn stagnation. Having contracted last year, output continues to shrink in many countries and growth is often anaemic where it exists. With inflation a fraction of one per cent across the continent, and prices already falling in places, Europe could sink into a deflationary quagmire, where debts weigh ever-more heavily, and consumer purchases are continually postponed in the hope of discounts down the road.
Last week’s reduction in the main interest rate, from 0.15% to 0.05%, underlined a policy that’s running out of road. In happier days, a cut of 0.1 percentage points would have been deemed irrelevant, yet now the bank stands only half of that distance from a rate of zero. In his speech at Jackson Hole last month, Mr Draghi effectively proposed a second grand bargain, with the bank’s cheap money complemented by orthodox “reform” where required, and – more interestingly – a supportive role for fiscal policy in those more fortunate countries that are not at their overdraft limits. Mr Draghi cannot command Germany to spend more or to tax less, but Berlin should listen to him. The old policy mix has ceased to work, and words alone will not rescue Europe this time.
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