German Opposition to Central Bank Debt Financing

The Germans are adamantly opposed to the central bank buying peripheral bonds.

German central bank president Jens Weidmann
German central bank president Jens Weidmann (Publico)

There is strong opposition in Germany to the European Central Bank possibly buying peripheral bonds to rein in the borrowing costs of countries in the periphery of the eurozone.

Jens Weidmann, president of the German Bundesbank, warned in Der Spiegel this week of the “danger that central bank financing can become addictive like a drug.” If Southern European states like Italy and Spain can reduce interest rates on their bonds by having the European Central Bank invest billions in them, as it did in August of last year, their governments will be under less pressure to reduce spending and liberalize their economies.

Weidmann added that the central bank buying bonds is “too close to state financing via the money press.” Indeed, that is exactly what it amounts to for the money used to buy peripheral debt is created out of thin air.

Jörg Asmussen, the other German on the European Central Bank’s executive board, said on Monday that “the ECB will only buy bonds with short maturities.” Central bank president Mario Draghi inisted earlier this month that countries “need to go to the EFSF” first, the European Financial Stability Facility, to request aid before the ECB could step in. He stressed, “the ECB cannot replace governments,” repeating the mantra of his predecessor Jean-Claude Trichet.

However, Italy and Spain are reluctant to apply for a bailout through the EFSF because, as was the case in Greece, Ireland and Portugal, such a rescue operation should come with string attached: more austerity measures that are increasingly unpopular in both countries.

Italian prime minister Mario Monti has campaigned for intervention from Frankfurt since January. “Despite these sacrifices,” he said at the time, referring to Italy’s budget and economic reforms, “we do not see concessions from the EU, such as in the form of lowered interest rates.” In an interview with Il Sole 24 Ore this week, he argued that inaction on the part of the European Central Bank somehow actually heightens the risk of inflation in Germany, which is the long-term effect of monetary expansion feared by the Germans.

Preventing the ECB, as the Bundesbank wants, from intervening in the sovereign bond markets to temper [borrowing costs] imbalances may turn out to be, from Germany’s point of view, an own goal with paradoxical effects.

Economist Jürgen Stark, who resigned from the ECB’s executive board in dismay in September of last year, wrote in the paper Handelsblatt on Tuesday that, “There is a danger of high inflation — not today, not tomorrow but in the medium to long term.” He added that the central bank has “repeatedly crossed red lines” and that plans to buy government bonds amounts to “illegaly financing states.”

The same newspaper last June observed that “the balance of power in Europe has changed” from north to south. The prospect of a “transfer union,” the permanent bailing out of weaker states in the periphery of the single currency union at Germany’s expense, is starting to become a reality.

An editorial in the conservative Frankfurter Allgemeine Zeitung at the time similarly warned that “the conditions for EU aid are increasingly blurred.”

German parliamentarians, from the ruling conservative and liberal parties as well as the opposition, regard in apprehension Chancellor Angela Merkel’s “concessions” to Southern European states who need help to stave off financial panic and sovereign bankruptcy. €100 in European support for the Spanish banking industry was pledged without conditions of economic reform on the part of Madrid. The European Central Bank has already purchased more than €200 billion worth of Greek, Irish, Italian, Portuguese and Spanish bonds without strings attached. How long will the Germans tolerate such rescue efforts if there appears to be no structural improvement in the economic and fiscal health of peripheral eurozone states?