European policymakers have put a loaded bazooka on the table. In a co-ordinated action, Eurozone governments and the IMF have decided to provide around €750bn for Eurozone countries with weak public finances. At the same time, the ECB has entered unchartered territory to prevent systemic risks.
Like all good plans, the Eurozone bail-out scheme is not without risk or uncertainties. Governments and parliaments still need to agree, borrowing conditions are still unclear and the ECB put its credibility at risk.
The Eurozone’s bazooka will not solve fundamental fiscal problems, but it should prevent speculative contagion. Countries like Portugal and Spain have now some time to prove that they are different.
With the ECB buying government bonds, the risk of a systemic crisis should diminish. In a worst case scenario, the ECB could even make an orderly default possible.
The ECB’s credibility is now in the hands of governments, as the success or failure of the big bang still depends on the implementation of fiscal consolidation. There will come a time when the ECB will want to restore its credibility as an inflation fighter. However, for the time being deflationary risks from fiscal consolidation still prevail.