Can The Proposed Action From The ECB Work

Late in the day Friday details emerged about what actions the ECB might take to stem the crisis. For the first time since the crisis began serious action is being debated. According to news reports Mario Draghi is proposing a combination of LTRO and coordinated bond buying. This is a big about face as a couple of weeks ago at the last ECB meeting Mario Draghi did not believe either was needed.

The ultimate bull case is that if peripheral rates can be brought down far enough this plan could have the effect on the European economy that TARP and QE had on the US economy in 2009. A virtuous cycle of more liquidity and greater optimism would lead to a cyclical recovery from very cyclically depressed levels.

The bear case is that we have seen similar rumors before and that ultimately the ECB has stopped short of using the force that is necessary. Bringing peripheral rates down by 1%-2% might remove the risk of a short term meltdown but will not help the European economies recover. Even worse it allows the frog to slowly boil as the urgency for a permanent solution is delayed.

Without knowing what is rumor and what is fact it is difficult to make a judgement on the market. The 60 point rise in the S&P 500 has significantly raised expectations for ECB action. If the ECB fails to act as strongly as the rumors suggest or if the actions will be taken further out in time the market would likely not take it kindly. If the ECB does act this will put  a lot of pressure on the conservatively positioned investment community to buy, even if in the long run the action turns out to be too little.



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