ECB raises rates for the first time in 11 years: live updates

Ashley Nelson

Unlike other monetary policymakers, European Central Bank officials have the added challenge of setting policy for many different countries, each with its own fiscal policy, economic outlook and level of debt.

As the bank tightens its easy money policies by raising rates and ending its multi-trillion-dollar bond-buying schemes, it is also trying to keep government borrowing costs from diverging. enormously in the euro area and hamper the effectiveness of monetary policy.

On Thursday, the bank is expected to announce more details about a new policy tool it is designing to keep borrowing costs from rising out of step with a country’s economic fundamentals.

These differences between countries are most clearly reflected in sovereign bond yields, a measure of government borrowing costs. Investors will demand higher returns from countries they believe are riskier to lend to, perhaps due to a history of default, political instability or slow economic growth.

Borrowing costs for Italy, which has one of the highest the debt burden in the euro zone has risen sharply since the European Central Bank reaffirmed its intention to raise rates. This week they rose again as the country’s government collapsed, with Prime Minister Mario Draghi stepping down on Thursday after key elements of the coalition government abandoned him. The difference, or spread, between 10-year sovereign bond yields in Italy and Germany is now about double what it was at this time last year.

The European Central Bank considers a sudden breakdown in the relationship between government borrowing costs and economic fundamentals to be called market fragmentation. She said she would not tolerate this as it would reduce the effectiveness of her other monetary policy tools in bringing inflation down.

It is “critical that funding conditions move broadly in sync across the eurozone as we change our stance,” Luis de Guindos, the bank’s vice president, said earlier this month. “For two equally strong eurozone companies, a change in monetary policy stance should lead to a similar reaction in their funding conditions, regardless of the country in which they are domiciled.”

In late June, the bank announced that from early July it would implement its first line of defense against fragmentation by piloting reinvestments of proceeds from maturing bonds in its US bond purchase program. 1.85 trillion euro ($1.88 trillion) pandemic era. to the bonds of the countries that would best support the objective of consistency of its monetary policy. For example, he could use the proceeds from maturing German bonds to buy Italian debt.

At the same time, the bank said it was working on a new tool to end widely divergent borrowing costs for some countries. Internal disagreements had to be overcome over the design of this tool to ensure that it did not encourage governments to be fiscally irresponsible by thinking the central bank would come to the rescue.

The central bank has been through this battle before. At the height of the eurozone sovereign debt crisis a decade ago, the central bank tried to devise a policy tool that would match the commitment of Mr Draghi, then president of the European Central Bank, to do “whatever it takes” to save the euro. It has faced many political and legal challenges.

Ultimately, the tool, which would allow the bank to make unlimited purchases of a country’s debt if it was part of a formal bailout and reform program, was never used. .

The new tool should come with fewer conditions for a country to benefit from it.

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