The ECB takes action to stave off eurozone collapse, but is a fatal bank run already underway in Spain?

The stock market is apparently happy about the European Central Bank's (ECB) announcement that it will be buying up lots of sovereign debt from the "periphery" countries of the eurozone, like Italy and Spain. In those two cases, the "periphery" includes the third and fourth largest economies in the eurozone.

But is there already a bank run underway in Spain. Carol Matlack's report, The Money Drain in Spain Bloomberg Businessweek 09/05/2012, makes it sound like such is the case:

Spain's economic crisis has passed another scary milestone, as new central-bank data show that capital flight from the country now far exceeds levels reached in Asia during the worst of that region's financial crisis in the 1990s.

Bank of Spain figures show that net capital outflows — including bank withdrawals and selloffs of Spanish stocks and bonds — equaled more than 50 percent of the country’s economic output over the year ended July 31. That compares with a 23 percent outflow from Indonesia, the country hardest hit by capital flight during the Asian crisis in 1997 and 1998, says Jens Nordvig, director of currency research at Nomura Securities International in New York. "I've never seen anything this big," he says. "Spain is in a category by itself."

Without a strong economic recovery, it's hard to see any way the eurozone is going to save itself in the current form. The ECB's debt-purchase actions may delay the end, but who knows for how long?

Matlack mentions the role of the Target 2 currency-clearing mechanism of the eurozone in mitigating some of the immediate danger of the (slow-motion?) bank run Spain is experiencing: "As a member of the euro common currency, Spain has been cushioned by the ECB's so-called Target 2 system, which provides automatic funding to member countries experiencing capital outflows. Still, says Nordvig, Spain’s banking system 'is running out of liquidity and running out of collateral,' since collateral has to be pledged to the ECB when it provides funds."

My own informal rule about the euro crisis is when you start hearing the phrase "Target 2" regularly in general news reports and on TV, The End Is Near, to coin a phrase. Because the Target 2 arrangements could wind up having a major negative effect on the German Bundesbank.

I haven't seen much reporting on it, but I'm guessing that there is heavy pressure coming from Washington to keep the euro limping along at least until after the US Presidential election. A rerun of the worldwide financial panic and stock market crash of October 2008 is certainly not what the Obama Administration would want to see this year.

Spiegel International reports on the ECB bond-buying action in Unlimited Bond Purchases: ECB Head Draghi Backs Up Pledge to Save Euro 09/06/2012:

When [ECB head Mario Draghi] Draghi did finally step in front of the microphone on Thursday, he confirmed what most already knew. The ECB is to launch a new bond-buying program to hold interest rates on euro-zone sovereign bonds in check. The program, called Outright Monetary Transactions (OMTs), allows for unlimited ECB purchases of sovereign bonds on the secondary market. The program is to focus on bonds with a period of three years and less.

"OMTs will enable us to address severe distortions in government bond markets which originate from, in particular, unfounded fears on the part of investors of the reversibility of the euro," Draghi said in a statement. "Hence, under appropriate conditions, we will have a fully effective backstop to avoid destructive scenarios."

The decision to essentially restart the ECB's bond-buying program, which saw the bank amass over €210 billion euros worth of sovereign bonds from heavily indebted euro-zone member states in 2010 and 2011, was not uncontroversial. Particularly Jens Weidmann, head of the German central bank, the Bundesbank, and a prominent member of the ECB Governing Council, has been vocally opposed to such a move.

Weidmann is an appointee of Chancellor Angela "Frau Fritz" Merkel and has been a loyal Angiebot.

But the heavy hand of Frau Fritz' austerity program is affecting the ECB bond-purchase program, as well:

Still, it appears that Weidmann was able to put his mark on the OMTs program. For example, the ECB will only assist countries that appeal for help to the euro bailout fund and submit to the required austerity conditions. Their adherence to those conditions is to be monitored, in part, by the International Monetary Fund (IMF).

Furthermore, Draghi indicated that any bond purchases would be counteracted by measures to ensure that the money supply in the euro zone remains stable in order to avoid inflation, a top concern in Germany.

Large investors tend to have a mystical faith in central banks, so it's not surprising that markets are reacting enthusiastically to Draghi's action initially.

Tags: angela merkel, austerity economics, eu, euro, european union, spain