This was probably chiefly motivated by a refusal to allow any complacency in these two countries. Rather than signing a blank cheque, the ECB wants more efforts in terms of fiscal austerity and structural reforms.
This approach seems to have been successful.
Indeed, the Italian government, in an emergency press conference on Friday evening, announced that as soon as next week the process of a reform incorporating the principle of a balanced budget in the Constitution will start in parliament. Furthermore, the Italian government has decided to bring forward the objective of returning to a balanced budget to 2013 instead of 2014.
The announcements on structural reforms (labour market flexibility and deregulation) remain very vague, but that is on balance more than what we expected in view of Italian official communication through the week.
We think that Friday’s announcements – which probably need to be complemented with similar moves from Spain – are consistent with an extension of bond buying by the ECB to these two countries next week.
While this should bring some immediate relief, it cannot be a silver bullet. The Europeans need to continue to work hard on EFSF 2.0 and probably start discussions on the principle of euro bonds. In addition, any progress in the European sovereign crisis may be hampered by more challenging macro conditions.
However we had at the end of this week, on balance, a substantial collective step forward by the Europeans.
