The head of Germany’s Bundesbank Joachim Nagel has warned it will be virtually impossible to decide if a divergence in borrowing costs between eurozone countries is justified.
Article continues below
>
He was arguing it would be fatal for governments to rely on the European Central Bank’s support.
Nagel’s comments in a speech were the first sign of serious disagreement at the ECB over its plan to develop a new asset purchase tool to counter any “unwarranted†surge in the bond yields of more vulnerable countries once it starts raising interest rates.Â
Nagel said “it would be fatal if governments were to assume that the eurosystem will ultimately be ready to assure favourable financing terms for the member statesâ€, and that rate-setters could find themselves in “dire straits†legally over the tool.
"The Member States now have the task of bolstering confidence in their future fiscal policies. Against such a backdrop, it surprises me that the escape clause for deviation from the fiscal rules was recently already extended to 2023. Furthermore, there sometimes seems to be the impression that fiscal rules will no longer be truly binding in future. These are the wrong signals to send if we want to generate confidence in sound government finances even in an environment of rising interest rates.
"In any case, it would be fatal if governments were to assume that the Eurosystem will ultimately be ready to assure favourable financing terms for the Member States.
"I would thus caution against using monetary policy instruments to limit risk premia, as it is virtually impossible to establish for sure whether or not a widened spread is fundamentally justified. One can easily find oneself in dire straits.
"First, interest rate spreads are fundamentally unjustified at the observed level. In other words, they are the result of excesses in the financial markets.
"Second, individual Member States are not receiving the monetary policy signals as intended. In other words, the transmission mechanism is impaired.
"And third, the above is limiting the Eurosystem’s ability to maintain price stability in the euro area.
"On the basis of these three conditions, the Governing Council of the ECB would then have to decide whether an anti-fragmentation instrument should be activated based on monetary policy considerations.
"In such a situation, it would be crucial for this measure to be strictly temporary. In exceptional situations where these three conditions are met, the OMT programme, which you are all familiar with, already exists in principle. OMT is subject to clear conditions. This is important from a legal perspective. The European Court of Justice and the Federal Constitutional Court have reviewed OMT and found its design to be legal.
"Any new anti-fragmentation instrument would need to be properly set up to meet three conditions: the first condition relating to the orientation of monetary policy, the second to our mandate and the third to economic incentives.
"The first condition, relating to the orientation of monetary policy, is that the use of the instrument must not change said orientation. Should this be the case, measures would have to be taken at the same time to neutralise its impact on the orientation of monetary policy.
"The next condition, relating to our mandate, is that, in order to be compatible with our mandate, any new instrument would have to be justified solely on monetary policy grounds, comply with the principle of proportionality and contain sufficient guarantees to prevent it from entering into conflict with the ban on monetary financing of governments. There would also need to be an explanation of what sets the new instrument apart from OMT.
"The final condition, relating to economic incentives, is that it is crucial that Member States continue to have sufficient incentives to conduct their fiscal and economic policies in a sustainable manner and reduce their debt levels. Effective fiscal conditionality is indispensable in this case." ■