Lower risks, same problems

Financial conditions in the eurozone have significantly improved since the summer, when eurozone risks peaked because of German policymakers’ open consideration of a Greek exit, and the sovereign spreads of Italy and Spain reached new heights. The day before European Central Bank president Mario Draghi’s famous speech in London in which he announced that the ECB would do “whatever it takes” to save the euro, bond yields in Spain and Italy were at 7.75% and 6.75%, respectively, and rising. When the ECB announced its outright monetary transactions (OMT) bond-buying programme, the eurozone was at risk of a collapse.

Since then, risks have abated significantly, thanks to a number of factors:

The ECB’s OMT has been incredibly successful in reducing the risks of breakup, redenomination and a liquidity/rollover crisis in the public debt markets of Spain and Italy. Although the ECB has yet to spend a single additional euro to buy the bonds of Spain and Italy, both short-term and longer-term sovereign spreads against German bonds have fallen substantially.

Following a number of political and legal hurdles, the successful operational start of the European Stability Mechanism (ESM) rescue fund provides the euro zone with another 500 billion euros of official resources to backstop banks and sovereigns in the euro zone periphery, on top of the leftover funds of its predecessor, the European Financial Stability Facility (EFSF).

Realising that a monetary union is not viable without deeper integration, eurozone leaders have proposed a banking union, a fiscal union, an economic union and, eventually, a political

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