Lagarde defends ECB plan to counter bond market panic

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The European Central Bank is determined to nip “in the bud” any fragmentation of borrowing costs between eurozone countries, its president Christine Lagarde said on Monday, warning anyone in doubt that it “is making a big mistake”.

Appearing before European lawmakers in Brussels, Lagarde defended the ECB’s decision, taken at an emergency meeting last week, to speed up work on a new policy tool to counter the recent spike in borrowing costs. of the most vulnerable countries. “You have to nip it in the bud,” said the ECB president.

Since the ECB voted earlier this month to start removing some of its ultra-loose monetary policy, bond yields in weaker countries like Italy have climbed faster than those in more stable countries like Italy. ‘Germany.

Lagarde said the ECB does not want to let this “risk of fragmentation” occur and “hinder” the impact of its policy decisions. The ECB president told lawmakers: “You want to anticipate this and you want to prevent it.”

Last week’s emergency meeting came after bond yields in countries including Italy and Spain rose to their highest level in eight years following a move by rate setters the ECB six days earlier to stop buying more bonds and start raising interest rates.

The ECB fears that a panic in the bond market could push the borrowing costs of the weakest countries to a level that drags them into a financial crisis. Such a crisis could limit the central bank’s ability to use rate hikes to bring inflation down from its record high of 8.1% to its target of 2%.

Eurozone bond markets sold off as Lagarde spoke on Monday afternoon. Germany’s 10-year bond yield climbed to 1.75%, while Italy’s rose to 3.67%. Bond yields rise as their prices fall.

The sale followed higher-than-expected demand from IG Metall, Germany’s largest union, for a 7-8% annual wage increase for 3.8 million metal and electrical workers, many of them in the country’s vast auto industry. Higher wages could drive up inflation and force the ECB to take more aggressive action to curb price growth.

When asked to justify why the ECB has been slower to raise interest rates than the Swiss central bank, which announced a hike of half a percentage point last week, Lagarde said that such comparisons were “odious”. She added: “Circumstances are different, monetary policy stories are different, currency strength is different.”

Some MPs pressed Lagarde to explain how the ECB would be able to contain the band – or gap – between different countries’ borrowing costs if investors bet the other way.

Luis Garicano, a Spanish MEP, asked if the ECB risks “disagreeing with the market on what the band should be and then the risk is that the ECB will end up buying everything and not the market”.

Refusing to give details on how such a new instrument might work or when it would be launched, Lagarde justified it by saying that the ECB needed to be “absolutely certain that our monetary policy actually applies to all the countries of the eurozone”.

Lagarde said: “Fragmentation will be dealt with if the risk arises; and this will be done with the appropriate instruments, with the appropriate flexibility; it will be effective; it will be proportionate; it will be within our mandate and anyone who doubts this determination will be making a serious mistake.

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