What if Spain refuses to play Super Mario’s game?

So “Super Mario” did it. The European Central Bank President on Thursday announced “unlimited bond-buying” to tame profligate eurozone members’ borrowing costs. “Under appropriate circumstances, we will have a fully effective backstop to avoid destructive scenarios with potentially severe challenges for price stability,” Draghi told an expectant world.

The ECB, then, is still referring to “price stability”, pretending its actions are designed with its regular inflation-target in mind. We are, patently, a long way beyond that point. Draghi’s plan is the latest ECB attempt – perhaps the most serious yet – to prevent the break-up of the single currency. Be aware, though, that “perhaps” is the operative word.

Draghi insists it is “impossible” any country might leave the eurozone. Yet some of the stronger European governments have admitted they’re preparing for it and, crucially, bond markets have been betting on it for months. Indeed, the reason Draghi has spent the entire summer administering the behind-the-scenes political arm-twisting which made Thursday’s words possible is because he knows that unless the European authorities pull an elephantine rabbit out of the hat, then at least one, and possibly several, of the “peripherals” will be forced by the markets to exit.

So desperate was the world for relief that Draghi’s words were like an elixir. In Italy and Spain, not the worst eurozone fiscal offenders but the ones big enough to matter most, 10-year government yields dropped sharply after he spoke, by around 20 and 40 basis points respectively.

Sovereign debt prices rose because Draghi said the ECB would buy “unlimited” bonds, meaning that deeply distressed “Club Med” debt markets can theoretically be propped to an extent going way beyond the eurozone’s two bail-out funds. That’s good, because one of funds has spent most of its money and the second doesn’t legally exist.

Draghi also confirmed the ECB will forego the seniority status it insisted on during previous purchases under the Securities Markets Programme (SMP). So investors thinking about further bank-rolling the eurozone profligates can worry less about being shoved to the back of the creditor queue if the bonds default. Equity markets were also euphoric, with the Stoxx Europe 600 surging 1.9pc on Thursday, the gains pretty much across the board. America’s S&P500 was 1.5pc up, hitting its highest close since 2008.

Yet the devil, as always, is in the detail. And the detail strongly suggests that the ECB’s bond-buying, far from being “unlimited” will very much be conditional. Possibly, for that reason, it may even be non-existent. Almost certainly, it won’t be in the immediate future.

I’m as sick of these long months of economic and market malaise as anyone. So please don’t shot the messenger. The world obviously wants to move on, escaping this endless and crippling speculation about what the Western world’s central bankers may or may not be told by their political masters to do. It’s surely important, though, that we dare to look beyond the “unlimited” headline – which the ECB and stock-brokers everywhere have been spinning like crazy – and intelligently reflect on what is actually likely to happen.

First and foremost, even the part of Draghi’s speech above, the sentence designed for headline quotation, begins with an awkward phrase. “Under appropriate circumstances…” the bond-buying will happen, the principal circumstance being that Spain – the large country closest to default – requests an official bail-out and accepts all the related-conditions. That will mean signing a “Memorandum of Understanding” involving a major loss of sovereignty and extra fiscal austerity, to be policed by both the ECB and International Monetary Fund.

Will Spain, though, with 25pc unemployment (and 50pc youth unemployment) accept more austerity? The ball may be “firmly back in Madrid’s court” – a phrase I’ve read at least a dozen times in recent days – but will Mariano Rajoy’s government actually sign-up to the indignity and downright danger, in terms of socio-economic fall-out and civil unrest, of an “enhanced conditions credit line”? If Spain plays games, then the market will hammer Spanish bonds, no question. But if the eurocrats want to keep the entire single currency project on the road, and avoid it unraveling, that will still be the ECB’s problem.

In the aftermath of Draghi’s performance, Rajoy stayed poker-faced regarding his next move, even at a joint press conference with Angela Merkel. “There is no urgency,” he hissed, as the German Chancellor did everything in her power, but not quite enough, to control the negative body language. Just nine months ago, let us not forget, Rajoy was elected on a solemn pledge to avoid the fate of Greece, Portugal and Ireland – countries that did accept bail-out, the conditions and the implied default.

When it comes to the prospect of Spain agreeing to co-operate, it’s hardly encouraging that the Spanish Finance Minister, a key Rajoy ally, referred to the ECB and IMF officials who would visit Madrid and monitor the country’s compliance with any bail-out terms as “the men in black”. That’s a term which, across Southern European, can refer only to fascist boot-boys.

Back in June, Spain’s path to the sun-lit uplands looked much easier. At an EU summit, eurozone heads of government agreed to a joint Spanish-Italian plea for bond-buying with no new conditions and no “men in black”. For all the joy associated with Draghi’s words, they actually reversed this decision.

This coming week, the German constitutional court will decide whether the European Stability Mechanism – the bail-out fund that doesn’t exist yet – is legal. Then the Bundestag needs to approve the ECB’s latest proposed action, as do several other eurozone parliaments. All that could take months.

In addition, Draghi also made clear there was “one dissenter” to his plan on the ECB’s Governing Council. No-one has denied this was Bundesbank supremo Jens Weidmann, who has lately been toying with resignation, a threat his successor saw through. As a sop to Germany, Draghi said ECB bond purchases would be “sterilized”, taking equivalent deposits from commercial banks to theoretically temper the inflationary impact. But this makes no difference at a time when the ECB is anyway allowing the eurozone’s bombed-out banks to borrow as much as they want, against any old collateral.

If the fiscal conditions on Spain and others are similarly fudged, and Weidmann goes, inflation-spooked German voters could push Merkel herself out of office. That’s another reason Draghi’s bond-buying might not happen. Who’s to say, though, that the conditions won’t be fudged, given that they always are and given that Rajoy will need to accept them? Anyone disregarding these political considerations needs to spend less time with their spreadsheets and learn about the real world. And anyone who says that Draghi’s bond-buying programme will definitely go ahead is a fool.

Oil prices also surged on “Draghi Day”. Crude jumped almost $2 a barrel even though the ECB also announced that the eurozone economy, the world’s second-largest, is now set to shrink 0.4pc in 2012, compared to its previous prediction of a 0.1pc contraction. Worsening growth forecasts, which we’ve lately seen not only in Europe and the US but Asia too, usually mean crude prices fall. Yet oil is up more than 25pc since mid-June.

This can’t be blamed on Iranian sanctions as other OPEC producers are more than compensating. Oil is firming-up in part because shrewd investors are using tangible assets to hedge against the future inflation and currency debasement which will result from the Western world’s “quantitative easing”. So if the ECB lets rip and joins the QE party, don’t expect any respite from cheaper oil.


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