ECB buys public debt again: Otmar Issing voices strong critique

In a rare Sunday press release (August 7) , the President of the ECB, Jean-Claude Trichet (on behalf of the Governing Council), hailed the fiscal and structural measures of Spain and Italy and their commitments—along with other member countries—to strictly adhere to “fiscal targets”. Then he emphasized that countries are sovereign states that themselves should honor their own “signature as a key element in ensuring financial stability in the euro area as a whole“. (Oh, and he supports the joint statement of the same day by France and Germany, which is not surprising given the occasional word-by-word similarities.) Then he concludes that the Securities Markets Programme (SMP) will be activated. I.e., he praises the countries and then announces that the ECB will commence purchases of their debt.

I have mentioned before, here and here, that I could never have imagined this behavior some years ago, and that this in my view is in gross violation of the intent of the Treaty of the European Union. The legal trick, however, is to conduct the purchases on the secondary market. Moreover, to calm the council members who do not support the SMP, interventions are sterilized on a weekly basis, such that the money supply does not go up. Finally, the argument for the whole operation is that it facilitates the monetary transmission mechanism such that price stability can be achieved. So, presumably the yields on these countries’ bonds are considered to be mis-priced by the market, thus messing up the transmission. If that really is the belief, the ECB could earn tons of money, to the benefits of taxpayers, by selling German bonds and buying Italian. Pure profit guaranteed.

So what happened? Yesterday, market participants reported that the ECB was buying up Spanish and Italian bonds, and their yields did drop substantially. It was, of course, not an ordinary day as it was the first trading day after the Standard & Poor’s downgrade of US debt. So all stock markets plummeted, and investors went in to public debt (take that S&P). So it is difficult to trace out how big effect the ECB purchases had per se, and how much of it was a flight to bonds (even though most investors trying to fly to bonds may have chosen some with a different country name).

Up until Monday the ECB holds around 74 billion Euro worth of public debt. How much has been added cannot yet be seen on the ECB site. Their Ad-Hoc communication of August 8 only covers the size of the SMP up until August 5. So the precise amount of yesterday’s purchases of government bonds remains unknown until next Monday. Judging from market commentators, however, the activity was substantial (and the Sunday press release could also be taken as an indication of that).

Therefore, in all likelihood the role of ECB as a fiscal entity in the Euro zone is gradually increasing. This is a bad idea, as it opens up for politicized monetary policy and breach of central bank independence. It appears that you have to be a former policymaker from ECB to be able to voice such fears in public. Long-time member of the ECB executive board Otmar Issing writes in Financial Times exactly about these dangers. Among his strong statements I close out with these:

“Any attempt to “save” monetary union via agreements which transfer sovereignty to a European level, where violations of fundamental treaties have become a regular event, lacks any logic. In the end it will only further alienate the people from Europe itself”,


“A monetary union with a stable euro can only survive if central bank independence is fully respected. This implies that the European Central Bank abstains from fiscal policy actions. Yet to change the “no bail-out” clause ever more in the direction of a bail-out regime is not a step towards a democratically-legitimised political union. It is a move on a slippery road to a regime of fiscal indiscipline drowning hitherto solid countries in the morass of over-indebtedness.”

My guess is that he is saying what a few current council members only think.

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2 Responses to ECB buys public debt again: Otmar Issing voices strong critique

  1. jmg says:

    “I have mentioned before … that I could never have imagined this behavior some years ago, and that this in my view is in gross violation of the intent of the Treaty of the European Union.”
    I think that before the crisis Trichet and the other European central bankers couldn’t imagine it either. They are in crisis mode since August 2007. At that time they started a secret bailout of the periphery countries and allowed that the TARGET2 debts of the periphery countries steadily increased. The Bundesbank TARGET2 claims are now at 336 billion Euros (June 2011, LINK:, Time series EU8148: External position of the Bundesbank in the EMU / Claims within the Eurosystem / Other claims (net)).
    In Germany Professor Sinn (Munich) harshly criticises this bailout, which is legal, but also against the spirit of the Maastricht treaty.
    (LINK: “Target Loans, Current Account Balances and Capital Flows: The ECB’s Rescue Facility”
    CESifo Working Paper No. 3500 by Hans-Werner Sinn and Timo Wollmershäuser
    LINK to Video (CESIFO Mediathek), where Sinn explains the content of the paper to his graduate students:
    Title:”Target Loans, Current Account Balances and the ECB’s Rescue Facility”

    Otmar Issing is an advisor to Goldman Sachs.
    Perhaps he has to fulfill the task to boost the tensions in Europe, so that the GS traders in New York can reach their quarterly profit target.

    • I really can’t see the relevance of the Goldman Sachs comment. Pure speculation. Issing’s essay is entirely consistent with what he has been arguing for most of his life. So much credit one must give him!

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