Tags: Carr | ECB | bonds | buying

Europe’s Problems Are Far from Over

By Michael Carr   |   Friday, 07 Sep 2012 07:42 AM

Traders welcomed European Central Bank (ECB) President Mario Draghi’s statement that the bank would begin buying bonds of troubled countries to stabilize European credit markets. The goal is to provide countries facing high interest rates with access to cheap credit.

The ECB promised to buy unlimited amounts of bonds issued by troubled countries. This could lead to the unintended consequences of unrestrained spending in those countries, which would probably make the entire situation worse in the long run.

In a move that seems like it was designed to appease inflation hawks, Draghi said the purchases would be sterilized and a euro would be withdrawn from the money supply for each euro worth of bonds that are bought.

Despite this assurance, the head of the German central bank fumed that the bond purchases were “tantamount to financing governments by printing banknotes” according to reports from Bloomberg.

If the purchases are truly sterilized, that would have the impact of tightening the money supply in a weak economy. Most experts agree that the Federal Reserve made the Great Depression of the 1930s worse by doing precisely what the ECB now proposes to do.

If the purchases are not sterilized, then the fears of German officials that the currency is being debased will be confirmed.

With its words, the ECB has indicated that it will prop up failing countries without sparking inflation. Time will tell if it is able to accomplish these goals. However it is likely that with both the United States and Europe “financing governments by printing banknotes” inflation will soon become a more significant concern.

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