Analysis: Market crash exposes Europe’s divisions

  • Defeat markets focus on Europe’s Achilles heel
  • The European Central Bank’s attempt to restore confidence that has been curbed by high prices
  • Ministers deadlocked over a ten-year plan to support banks

LONDON (Reuters) – A sell-off in the markets brought back memories of the euro zone debt crisis more than a decade ago, highlighting the divisions that have plagued the currency bloc’s efforts to forge closer bonds.

While the years following the debt crisis saw Europe’s nineteen eurozone nations centralize and tighten banking controls, many planned economic reforms in Italy and elsewhere were eased as massive money printing bolstered the economy.

Driven by fears that high borrowing costs would stifle economic growth, the market rout has exposed cracks in an unstable alliance that – unlike the US – is held largely by the central bank rather than a government with the power to tax and spend.

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Two events this week exposed the fragility of the union: the European Central Bank’s efforts to restore confidence in weaker countries facing rising borrowing costs as the debt-buying program ends, and the decade-long failure of ministers to put the bloc’s savers on a solid footing.

After a rare emergency meeting on Wednesday, the European Central Bank promised new measures to calm market selling, but the lack of a concrete plan to help heavily indebted countries such as Italy and Greece disappointed some. Read more

This was in sharp contrast to 2012, when then-European Central Bank President Mario Draghi addressed a crisis of confidence in the currency’s future with a pledge to do “whatever it takes”, followed by a massive money-printing program.

Now, however, the high prices, caused by this printing of money, as well as rising energy costs in the wake of the Russian invasion of Ukraine and the pandemic lockdowns in China, make this feat difficult to repeat.

“It was easy to do whatever it took when inflation was low,” said Guntram Wolff of think-tank Bruegel, adding that higher prices would prompt the European Central Bank to reverse course.

“The emergency meeting created a lot of expectations that the European Central Bank ultimately cannot meet,” he said. “Only governments can address the real economic difference and the incomplete setup of the eurozone.”

Interest rates and the balance sheet of the European Central Bank

French Finance Minister Bruno Le Maire has warned against bloc fragmentation, the kind of public warning that was once common but has largely disappeared since massive money printing eased the debt crisis.

Speaking to students in London, Lagarde offered no further clues about how the European Central Bank’s work came to be, speaking instead about climate change and the war’s impact on global grain supplies.

“went back”

Divisions in the euro zone are likely to come to the fore at a meeting of ministers later on Thursday to discuss a faltering plan to bolster the bloc’s financial system.

The so-called banking union, a mainstay of financial crisis reform, is still mired in controversy, as the critical issue of deposit protection at the region level remains unresolved.

“We’ve gone backwards, not forwards,” said Karel Lano of the Center for European Policy Studies.

“If there is a bank failure, it will be like 2008,” he said, adding that individual countries rather than the broader bloc would be left to bear the burden. “My period is over.”

Ministers are expected to delay plans for a unified safety net for bank deposits, which has long been opposed by Germany and which does not want to be in trouble for problems elsewhere, prolonging a decade-old push to unite the sector to better face crises. Read more

The lack of such a safety net puts European banks at a disadvantage for US competitors, said Thomas Huertas, the former alternate head of the European Union’s banking watchdog and now at the Leibniz Institute.

Commenting on the need to protect cross-border savers, he added, “It’s one of those benefits that a person can see and get to know. It’s an important component of not only finance, but I’m also thinking of the union itself.”

This lack of progress with a banking union, in turn, weighed on European bank stocks, which were years behind their American competitors.

Ministers are being discussed against the backdrop of rising borrowing costs in Italy, which have been exacerbated by the European Central Bank’s plans to raise interest rates and end its debt purchases to mitigate price hikes. Spanish, Portuguese and Greek bonds are under similar pressure.

Eurozone revenue

Bankers and investors are watching how Europe responds closely.

“A lot of what we do is a game of trust,” said Vis Raghavan, CEO EMEA and co-chair of global investment banking at JPMorgan. “A lot of what we’re seeing revolves around confidence in politics and an orderly path out of stagflation.”

But with the European Central Bank running out of a way to please investors, the ball is back in the politicians’ court for action.

“While the European Central Bank can keep markets happy with the bazooka, it becomes difficult to do at a time when it has to fight inflation,” said Carsten Brzeski, economist at Dutch bank ING.

“This leaves it up to the governments to finally cooperate in finding a suitable union.”

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Writing by John O’Donnell; Additional reporting by Lee Thomas in Paris and Sinead Cruz in London. Editing by Emilia Sithole Mataris

Our criteria: Thomson Reuters Trust Principles.

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