In a recent Project Syndicate column, Brad DeLong argued that the ECB is failing to step up to the plate as the lender of last resort:
The ECB continues to believe that financial stability is not part of its core business. As its outgoing president, Jean-Claude Trichet, put it, the ECB has “only one needle on [its] compass, and that is inflation.” The ECB’s refusal to be a lender of last resort forced the creation of a surrogate institution, the European Financial Stability Facility. But everyone in the financial markets knows that the EFSF has insufficient firepower to undertake that task – and that it has an unworkable governance structure to boot.Similarly, Barry Eichengreen writes:
Perhaps the most astonishing thing about the ECB’s monochromatic price-stability mission and utter disregard for financial stability – much less for the welfare of the workers and businesses that make up the economy – is its radical departure from the central-banking tradition. Modern central banking got its start in the collapse of the British canal boom of the early 1820’s. During the financial crisis and recession of 1825-1826, a central bank – the Bank of England – intervened in the interest of financial stability as the irrational exuberance of the boom turned into the remorseful pessimism of the bust.
Here’s where the political cover comes into play. Merkel and Sarkozy need to make the case that if the euro is to become a normal currency, Europe needs a normal central bank – one that does not merely target inflation like an automaton, but that also understands its responsibilities as a lender of last resort.More on this from The Economist, Antonio Fatas, Gavyn Davies and Martin Wolf as well as a nice "news analysis" from the NY Times.
If Italy is fundamentally solvent and merely facing a self-fulfilling "liquidity" panic (as investors sell bonds, yields rise, making it more costly to service its debts, which lowers the chances it will avoid default leading to investors selling bonds...), then it may not require much more than an announcement of a willingness to intervene to quell the crisis. By restoring confidence, the ECB could bring yields down without having to do much actual bond-buying (i.e., Super Mario* can be Chuck Norris).
The crisis potentially spells the end of the Euro - so the ECB is putting its mandate ahead of its own self-preservation. That is, it appears willing to risk its very existence for the sake of what it sees as its duty. As a matter of economic policy, it looks disastrously foolish, and yet, there's something oddly noble-seeming about it.
*Admittedly, referring to Italian policymakers named Mario as "Super Mario" is getting stale quickly (and I can't imagine how much they must despise it); and the press needs to decide whether it is ECB President Mario Draghi or new Prime Minister Mario Monti who is called "Super Mario" (or perhaps not... a quick search of "Super Mario" on the FT reveals a potentially confusing solution: "Super Mario Brothers"). The Guardian compares two of the "Super Marios" and this FT profile argues Draghi earned his "super."