German central bank chief Jens Weidmann's reported threat to resign has piled pressure on European Central Bank President Mario Draghi to mollify opposition to a new bond-buying plan without tying it up in so many knots it is rendered ineffective.
Weidmann, at a central bank symposium in Jackson Hole, Wyoming, refused to comment on a report in the mass circulation Bild newspaper that he had considered quitting several times in recent weeks but had been dissuaded by the German government.
He has made no secret of his displeasure with the strategy to lower Italian and Spanish borrowing costs by buying bonds.
Stepping up the pressure to attach conditions to the plan, fellow German ECB policymaker Joerg Asmussen said late on Thursday the ECB should only purchase sovereign bonds if the International Monetary Fund was involved in setting the economic reform programmes demanded in return.
Draghi is skipping this weekend's Jackson Hole retreat to try to smooth over a deep rift within the ECB over the bond scheme that is increasingly being played out in public.
The Italian will have little time to celebrate his 65th birthday on Monday as he tries to forge a deal before a Sept. 6 ECB policy meeting, and buy euro zone governments time to negotiate legal and political hurdles to a longer-term response to the bloc's debt crisis.
“Opposition from Weidmann and reservations from some other Council members will mean that ECB bond purchases would be highly conditional, be focused on the short end and would not aim to bring yields down quite as much as Italy and Spain might like to see,” said Berenberg Bank economist Holger Schmieding.
Draghi's July 26 vow to do “whatever it takes” to save the euro heralded his signature plan. But securing majority support for a plan Weidmann can live with poses the biggest balancing act he has faced since taking the ECB helm on Nov. 1 last year.
Highlighting the range of views among ECB policymakers, Executive Board member Benoit Coeure said on Friday the bank would do everything in its mandate to preserve the integrity of the euro - a line similar to Draghi's in late July.
The ECB was studying ways of intervening in the short-term bond market based on strict conditionality and the countries concerned agreeing to aid programmes with the euro zone bailout funds, Coeure said.
The central bank was hurt by its experience last year of buying Italian bonds only for Italy's then-prime minister, Silvio Berlusconi, to renege on reform promises he had made to get the ECB to step in.
Austria's ECB representative, Ewald Nowotny, addressed the ECB taboo of directly financing members states, saying there was a difference between buying bonds directly from governments and purchasing them on the secondary market to get yields down.
That tallies with Draghi's position, who said on Wednesday the ECB must employ “exceptional measures” at times to fulfil its mandate, his argument being that official euro zone interest rates are at record lows yet borrowing costs in some of its members are sky high, so monetary policy is not working as it should.
“I would warn against making an over-simple or even an ideological discussion about it,” Nowotny said.
Draghi also won some support from IMF First Deputy Manager David Lipton who said Europe had to dispel any doubts about the viability of the euro and that the ECB chief Draghi was “conceptually right on target”.
“He's got the right idea, the right approach and he needs the conditions under which his action can be effective. He needs the countries of the periphery to be doing what they need to do and then he can act,” Lipton told CNBC.
BALANCING ACT
Weidmann is not a lone voice on the ECB governing council and his opposition to a new round of bond buying, which he says could be “addictive like a drug”, means Draghi must attach strings to the plan to keep pressure on governments to reform and tighten their budgets.
In a weekend interview with Germany's Der Spiegel magazine, the German central bank chief said: “I hardly believe that I am the only one to get stomach ache over this.”
Draghi faces a trade-off as he sweats on a solution ahead of the Sept. 6 meeting. Go too far in trying to calm the Bundesbank and he risks ending up with a dud of a plan that has no impact on markets. Not go far enough and he risks more Bundesbank ire.
Weidmann cannot stop Draghi's programme and the Italian has managed to isolate him to some degree by winning German Chancellor Angela Merkel's tacit support for his scheme. But he could still undermine its impact.
In Berlin, a government spokesman said Merkel supports Weidmann but declined to comment on the report of his threat to quit.
“My fear is that his own decision will stand on principle, but that by being so outspoken beforehand, he hopes to limit the extent of the operation,” a senior ECB source said. “That would constantly put a question mark over how far we could go.”
Simon Tilford at the Centre for European Reform said that to have a significant impact on Italian and Spanish borrowing costs, the ECB plan must banish investor concerns that the two countries' membership of the euro zone would ever be threatened.
“Unfortunately, the ECB is highly unlikely to do enough to convince investors that membership is unequivocally forever, not least because the Bundesbank opposes any open-ended commitment to cap borrowing costs,” Tilford said.
The ECB source, speaking on condition of anonymity, did not think it would announce a target for bond yields, or aim for a specific spread - the premium other sovereigns' paper trades over the German benchmark.
Asmussen's comments on IMF involvement show there is pressure from policymakers at the bank other than Weidmann to stiffen the plan's conditionality.
The IMF is notorious for tying strict conditions to aid and Madrid is likely to take a dim view of that.
Spanish Prime Minister Mariano Rajoy has said he will not ask for any further help, to add to a bailout of Spanish banks worth up to 100 billion euros, until the ECB strategy is clear.
But with Spain's important northeastern region of Catalonia calling for government help this week and recession deepening, some form of outside assistance is increasingly likely.
Euro zone sources told Reuters last week that Madrid is negotiating over conditions for aid to bring down its borrowing costs, though it has not made a final decision to request a bailout. - Reuters