PARIS – Financial markets have rallied since July on the hope that the global economic and geopolitical outlook will not worsen, or, if it does, that central banks stand ready to backstop economies and markets with additional rounds of liquidity provision and quantitative easing. So, not only has good – or better-than-expected – economic news boosted the markets, but even bad news has been good news, because it increases the probability that central-banking firefighters like US Federal Reserve Chairman Ben Bernanke and European Central Bank President Mario Draghi will douse the markets with buckets of cash.But markets that rise on both good and bad news are not stable markets. “Risk-off” episodes, in which investor sentiment sours, are likely to return if economic news worsens and confidence in policymakers’ effectiveness drops.
In
the eurozone, euphoria followed the ECB’s decision to provide support
with potentially unlimited purchases of distressed countries’ bonds. But
the move is not a game changer; it only buys time for policymakers to
implement the tough measures needed to resolve the crisis. And the
policy challenges are daunting: the eurozone’s recession is deepening as
front-loaded fiscal consolidation and severe credit rationing
continues. And, as eurozone banks and public-debt markets become
increasingly balkanized, establishing a banking union, a fiscal union,
and an economic union while pursuing macroeconomic policies that restore
growth, external balance, and competitiveness will be extremely
difficult. - in Project syndicate
