Maria Arango

The Euro in Crisis: Decision Time at the European Central Bank

1. Evaluate the ECB’s response to the financial crisis of 2008–2010. What was their
analysis of the problem?

The ECB's response to the financial crisis of 2008-2010 was focused on addressing the liquidity issues
in the banking sector. The ECB's primary concern was to maintain price stability, which required them
to push against the economic winds by loosening policy when growth slowed and tightening as
enthusiasm built. The ECB's actions included the creation of a Europe-wide stabilization mechanism,
the European Financial Stability Fund (EFSF), which acted as a financial backstop for any eurozone
country that was having trouble accessing the bond markets.

Additionally, the ECB agreed to a $440 Billion euro bailout fund, organized as an intergovernmental
agreement of eurozone countries and financed through bond issues. In terms of their analysis of the
problem, the ECB recognized that the crisis was pan-European in scope and required forceful, but
slow action to save the euro. They also acknowledged that intervening posed risks for the ECB itself,
as it could open the ECB to political meddling and potentially have inflationary consequences. As a
result, the ECB focused on addressing liquidity issues in the banking sector, while national
governments addressed banking sector solvency.

2. The ECB responded less aggressively than the US Federal Reserve to the crisis. Why?

The ECB didn't respond as strongly to the crisis as the Fed because it had to focus on keeping prices
stable, it was worried about political interference, and it didn't have as many tools as the Fed.

Also, the ECB's primary mandate was to maintain price stability. This means that the ECB had to keep
inflation low, even if it meant taking actions that slow down economic growth. The Fed, on the other
hand, had a dual mandate of both maintaining price stability and promoting employment. This gave
the Fed more flexibility to respond to the crisis, even if it meant causing some inflation.

3. In May 2010, should the ECB agree to purchase Greek sovereign debt?

Purchasing Greek sovereign debt meant a broader effort to stabilize the market and prevent a default
and will help prevent a broader financial crisis in the eurozone and stabilize the Greek economy. So,
I will say yes, they should agree to purchase Greek sovereign debt.