European markets have surged over the last 24 hours, basically entirely due to a speech by Mario Draghi, the head of the European Central Bank. He said that his organization would do “whatever it takes” to save the euro, and that was apparently all it took.
In a speech in London, ECB chief Mario Draghi said the words that many worried European officials had longed to hear: “Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. .?.?. Believe me, it will be enough,” he said, according to wire reports.
The promise immediately renewed hopes for saving the 17-nation European currency bloc, and sent markets soaring — the Dow Jones industrial average closed up 1.67 percent, Germany’s DAX rose 2.75 percent and Spain’s IBEX 35 closed up 6.06 percent.
More significantly, yields fell on Spanish and Italian government bonds, a relief from the dangerously high levels they had hit in recent days. Bond yields are the cost governments have to pay to borrow money, and unsustainably high rates could push the nations to seek costly bailouts from the rest of the euro zone, as happened with Greece, Portugal and Ireland.
This is definitely a shift in Draghi’s perspective, given that he has stressed repeatedly that people should not rely on the central bank. But what did he really say? I think less attention has been paid to the “within our mandate” clause. The ECB has used that in the past to basically shut down any talk that they would buy up sovereign debt or bail out banks directly. Draghi could easily decide that the ECB doesn’t have the authority to print money and save the day. But people are so starved for leadership on Europe that the mere suggestion, however hedged, of action was enough to create tangible relief. The Spanish bond yield is down to 6.75% and falling, almost a full point below its high.
More broadly, it’s interesting to see how much power central bankers still have, just through statements, to move the market. The Federal Reserve has not used its communications channel to, say, allow that they would accept a higher inflation target. That alone may set some market forces in motion, if this incident with the ECB can be used as a guide. Bankers do have the ability to generate “ammunition” with their communications, regardless of the level of the interest rate or even the fundamentals.
However, before too long Draghi will have to back up this talk with action, given the perilous state of Europe and the continued weakness of many of its economies. Saying you’ll save the euro is one thing; actually taking the steps are quite another. And the ECB hasn’t earned full confidence on that front just yet.