European Central Bank President Mario Draghi finally revealed his hand last Thursday when he detailed the central bank’s latest bond-buying program.
The new program, aptly called the “Outright Monetary Transactions” program, or OMT, aims to lower the high borrowing costs for governments with unsustainable debt levels by buying their bonds with maturities up to three years.
Although the ECB didn’t put a limit to how much bonds it would buy, the central bank did specify that the purchases would be sterilized.
This means that no new euros will be printed, and that the amount of money in circulation will not change. Because the bond purchases will not affect money supply, the risk of inflation is greatly reduced.
The OMT isn’t for everyone though. For a country to be eligible, it must fulfill one of two conditions. The country must either apply for a full bailout or request a “precautionary” credit line from the EFSF or ESM.
Generally speaking, market participants are happy with the ECB’s decision. Not only does it greatly lessen the risk of a euro zone breakup in the near-term, but Mario Draghi has finally put his money where his mouth is.
Will the market’s good mood last?
There are a few analysts (including me) who believe that the positive market sentiment won’t last. For one, the OMT does not have the backing of Germany, euro zone’s most powerful member.During the ECB meeting, Bundesbank President Jens Weidmann was the sole member who voted against the OMT. Without Germany’s support, the OMT could end up being ineffective.
Also, prior the OMT, the ECB had already implemented the Securities Market Program (SMP) and the Long-Term Refinancing Operations (LTRO). Both programs were successful at first, propping up market sentiment and bringing down yields.
However, the optimism resulting from the programs didn’t last and the market eventually refocused on the negative fundamentals and sought the safety of the dollar.
Another issue I have with the OMT is that it eases the pressure on the debt-ridden nations to implement reform. They know they have little to worry about because Big Brother ECB will be there to save them.
In any case, this is the third bond-buying program the ECB has implemented. Will it work this time? Will it keep the euro zone intact? Feel free to let me know through the comments. Your opinions will be appreciated!