Careless talk costs credibility. As the sovereign debt crisis intensified on Wednesday – German and US 10-year bond yields rose by 10 basis points and peripheral countries even more – Angela Merkel might have wanted to schedule a call to commiserate with Ben Bernanke. The German chancellor and the Federal Reserve chairman, occupying two of the most important bully pulpits in world markets, have both found that their words are having the opposite effect on investors to that intended. Both now have a credibility problem.
In Europe, incredulity is centred on the latest Irish rescue plan: lots of money (€90bn, about 60 per cent of gross domestic product) and a much more severe budget. The markets, utterly unnerved by Ms Merkel’s insistence that bank investors share the pain of a rescue, just said no. The fall-out did, at least temporarily, succeed in weakening the euro against the dollar.
Mr Bernanke might sympathise. This month’s announcement of quantitative easing, or buying $600bn in Treasury bonds, did not bring the planned decline in yields. Instead, 10-year yields are up 40 basis points since the QE2 announcement . Like the Irish rescue, Fed bond-buying was widely seen as a risky effort to do something that probably should not or cannot be done at all, being carried out by people who did not wholly believe in it. The credibility gap only widened when the latest Fed minutes revealed a serious discussion of targeting bond yields through an open-ended commitment to print and buy, as well as an admission that the policy might weaken the dollar. The dissonance with Europe is intensified by the possibility that the eurozone, with higher unemployment and a debt crisis to boot, might need this desperation tactic more than the US.
Investor confidence is a crucial cog of the mechanism of monetary and fiscal policy, especially in a crisis. The authorities cannot get their way unless investors trust them to work effectively – and together. For now, the markets are understandably not persuaded.
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