MORGAN STANLEY RESEARCHMay 10, 2010Europe Economics
Fast forward towards a fiscal union in Europe …
Like the ERM crisis in the early 1990s spurred on politicalinitiatives to bring about the long-planned monetary union inEurope, it seems that the sovereign debt crisis could be actingas a catalyst for an ever closer union of European countries.The decisions taken this weekend first by European leadersand then by finance ministers mark a big leap towards a fiscalunion in the euro area, we think. Not only have countriesagreed to stand in for each other in an unprecedented extent,they have also agreed to foregoing some of their fiscalsovereignty and submit to rigorous fiscal consolidationprogrammes should they require financial assistance. At EUR750bn in total, the stabilisation fund amounts to a sizeable 8%of euro area GDP (equivalent to 10% of general governmentdebt). The size of the stabilisation fund is likely to go beyondthe expectation of most market participants as far as the fiscalstabilisation mechanism is concerned.
… and tighter surveillance of budget positions
The stabilisation fund clearly represents a move towards acloser fiscal union and towards the joint issuance of government bonds via the European Community (at least for the proportion of the fund handled via the balance of paymentsfacility). The key difference between the stabilisation fund and joint bond issuance lies in the conditionality. But thesurveillance mechanism will only be as good as its supervisors.Hence it was important to get both the IMF and the ECBinvolved too. If the experience of the Stability and Growth Pactis anything to go by there is reason for concern about theeffectiveness of the peer review process within the Ecofin withthe support of the European Commission. That said, the peer review process of the SGP might also be sharpened in thecoming months given the recent experience and the fact thatthere is domestic tax payers money on the line for emergencyliquidity assistance.
ECB, increasingly politicised, gives some more ground
As with the decision on the collateral eligible at its refinancingoperations, where the ECB already changed its rules twice, itbecomes clear that the ECB’s decision have becomeincreasingly politicised in the course of the crisis. As thedelineation of responsibilities between the common monetarypolicy run by the ECB and national fiscal policies run byindividual governments got more and more blurry, theindependence of the ECB started to be compromised. Tonightthe ECB decided to take one step further and – in addition toreinstating some of the measures it had already taken duringthe height of the financial crisis (term funding and USD swaplines) – also open the door to outright purchases of governmentbonds. These purchases will be sterilised and as such do notconstitute quantitative easing, i.e. an expansion of the ECB’sbalance sheet. So far the size of the intervention programmeand the details about which debt instruments the ECB is goingto buy are not known. This is a decision still to be taken by theECB Governing Council. Apart from the sterilisation, we wouldguess that the covered bond buying programme of the ECBcould be a blue print and would expect the ECB to reveal in duecourse the amount of the purchases it is targeting and thetimeframe over which they expect to conduct these purchases.In the highly successful covered bond programme, there werehardly any details given of which bonds they aimed to buy.
Consolidated Balance Sheet of the Eurosystem
As of April 30, 2010
2.1Receivables from theIMF66,5172.1Current accounts(covering the minimumreserve system)197,4962.2and securityinvestments, externalloans and other external assets145,1782.2Deposit facility251,6092.3Fixed-term deposits0
2.4Fine-tuning reverseoperations02.5Deposits related to margincalls0
4.1Balances with banks,security investmentsand loans17,503
4.2Claims arising from thecredit facility under ERM II0
5.2Longer-termrefinancing operations667,2455.1General government104,9445.3Fine-tuning reverseoperations05.2Other liabilities8,1425.4Structural reverseoperations05.5facility754
5.6Credits related tomargin calls36
8.1Deposits, balances andother liabilities14,4667.1Securities held for monetary policypurposes50,2438.2Liabilities arising from thecredit facility under ERM II07.2Other securities304,501
953,033835,57610161,4359247,00711249,2051,956,8191276,6571,956,819Total liabilitiesRevaluation accountsCapital and reservesCounterpart of specialOther liabilitiesLiabilities to euro areaLiabilities to non-euro areaLiabilities to other euro arearesidents denominated inLiabilities to non-euro areaOther liabilities to euro areacredit institutionsdenominated in euroDebt certificates issuedTotal assetsLiabilities (EUR millions)Banknotes in circulationLiabilities to euro area creditGeneral government debtOther assetsOther claims on euro areaSecurities of euro arearesidents denominated inClaims on non-euro areaLending to euro areaClaims on non-euro areaClaims on euro arearesidents denominated inAssets (EUR millions)Gold and gold receivables