Economy & Finance

Leave “fairy world” behind, Draghi tells euro zone

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PARIS (Reuters) – The euro zone’s crisis is far from over and its members must tighten budgets and forge a banking union to leave behind the “fairy world” that allowed problems to grow, European Central Bank President Mario Draghi said on Friday.

Draghi’s call for reform was echoed by International Monetary Fund chief Christine Lagarde, who said implementing a banking union with powers to supervise all banks in the euro zone should be the currency bloc’s top priority.

Speaking in Paris, where the government is trying to dispel concerns raised by the IMF that France could be left behind as Italy and Spain reform at a faster pace, Draghi said the euro zone’s debt troubles were likely to stretch deep into next year.

Another 173,000 people joined record jobless queues in the currency bloc in October while German retail sales and French consumer spending both fell more than expected, signs of the scale of the task still ahead for policymakers.

“We have not yet emerged from the crisis,” Draghi told Europe 1 radio. “The recovery for most of the euro zone will certainly begin in the second half of 2013.”

“The crisis has shown that we were living in a fairy world,” the ECB chief later added at a conference with top financial officials, pointing to the unsustainable debts, weak banks and poor policy coordination that gave birth to the crisis three years ago.

ECB policymakers hold their regular monthly policy meeting next week and are widely expected to leave interest rates on hold at a record low of 0.75 percent. Economists are divided on whether the central bank will cut next year and Draghi has said it is now up to governments to act to end the crisis.

He stressed that the ECB’s designing of a new bond-purchase program, dubbed Outright Monetary Transactions (OMT), had helped lead to much more benign market conditions in the 17-country euro zone.

Under the program, the ECB is ready to buy potentially unlimited amounts of sovereign debt but until Spain – the prime candidate for help – applies for aid, it cannot use the tool.

Simply announcing the plan, however, has eased the pressure on Spain and Italy, cutting around 2 percentage points since July off the interest they pay bond market investors to borrow over 10 years.

Data on Friday showed Spain registered a capital inflow of 31 billion euros in September, the first time international investors had put more money in to the country than they took out in 14 months.

“The confidence effect of the OMT announcement has been significant, and rightly so,” Draghi said, before urging governments to push ahead with reforms in a speech entitled ‘Competitiveness: the key to balanced growth in monetary union’.

Resisting fresh ECB action, Bundesbank chief Jens Weidmann said on Thursday central bankers had done more than enough to fight the crisis and it was now up to governments to act by reforming their economies and making the banking sector solid.


Draghi urged euro zone governments to push ahead quickly with implementing a banking union which he said must apply to all banks to avoid fragmenting the sector.

His position puts the ECB, which would take on the role of pan-European banking supervisor, at odds with Germany. Berlin has said that unified banking supervision under the aegis of the ECB should apply only to the bloc’s largest banks.

Joerg Asmussen, a top ECB negotiator for closer integration of the euro zone and a former deputy German finance minister, said late on Thursday a new European banking supervisory body would not be ready to operate fully before 2014.

That is symbolic of the bloc’s struggle to find a way towards the tighter unity of policy and oversight that most economists say they need to convince financial markets of the euro’s future.

Lagarde, for her part, pressed for swift implementation of a banking union that would have powers to supervise all banks in the euro zone.

“Banking union seems to us to be the first priority,” Lagarde said during the meeting in Paris, adding that closer budgetary consolidation should be next.

The economic situation in the euro zone remained fragile and governments should maintain a “reasonable” pace of budgetary consolidation to avoid crimping growth, she added.

Draghi urged governments to take advantage of the stabilizing effect the OMT bond-purchase program has had on markets to push ahead with a banking union as part of closer European integration, and to shape-up their economies.

“All policymakers should take advantage of this situation to continue their reforms with determination,” he said.

(Additional reporting by Nicholas Vinocur in Paris- Writing by Paul Carrel- editing by Patrick Graham)

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