ECB on Tour in Bali Unites to Say Don't Panic on Trade or Italy

(Bloomberg) -- European Central Bank officials from across the policy spectrum have found common ground on one key message this week: acknowledge the risks, but don’t panic.

President Mario Draghi and fellow policy makers have publicly discussed the dangers looming over the euro area, from concerns over Italy’s public finances to rising protectionism and uncertainties over Brexit. But while the threats have focused their thinking, they’ve so far stuck to the view that the economy can push past them.

ECB on Tour in Bali Unites to Say Don't Panic on Trade or Italy

Dutch central bank President Klaas Knot urged officials not to “over-rush into panicky conclusions” about Italy’s budget plans, and Estonia’s Ardo Hansson told Bloomberg the situation seems to be “more or less” contained from the rest of the region.

Despite the confidence, the mounting threats have taken some hold within the walls of the ECB’s headquarters in Frankfurt, where officials discussed last month whether to say risks had shifted back to the “downside.” In the end, they opted to retain their earlier assessment that risks are “broadly balanced.”

Any change to that in the future would likely signal to investors that the ECB may adopt an even slower pace in withdrawing monetary support than currently planned. Officials are set to cap bond buying by year-end.

As the central bank scales down its stimulus, it’s also up to governments to do their job in safeguarding the region’s upswing.

“While the ECB can contribute to the stability of the financial system, it cannot by itself ensure financial stability,” Executive Board member Sabine Lautenschlaeger said in Malta on Friday. “It’s therefore important that all relevant actors are fully aware of their respective responsibilities for financial stability and act in a manner to live up to those responsibilities.”

Lautenschlaeger, who’s also the vice chair of the ECB’s bank-supervision unit, issued a reminder that the institution can’t finance governments or provide liquidity to insolvent banks, in comments likely aimed at Italy. That country is in the spotlight over the budget plans of its populist administration, which have sent bond yields to the highest since 2014.

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“The Italian budget is far from catastrophic for the country’s public finances. Still, it has probably lifted the chances of Italy defaulting or leaving the euro area enough for bondholders to demand more compensation for bearing those risks. Neither feature in our core scenario, but sovereign yields may continue to rise as rhetoric between Rome and Brussels heats up.”

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For the ECB, a gradual approach to the exit allows policy makers to see how trade tensions -- which could dent the euro area’s export-oriented economy -- will unfold.

“It will be an ongoing dispute,” Knot said in an interview in Bali, Indonesia, where the International Monetary Fund annual meetings are taking place. “But for the euro area I think it’s very relevant whether this will be a U.S.-China dispute, or whether this will truly be a global retrenchment of open markets, international trade.”

Also in Bali, President Draghi shared the confidence of many of his colleagues on the solidity of the euro area’s expansion, but offered a reminder that the region’s performance isn’t “independent of the global growth momentum.”

Brexit Woes

He also said there could be a fallout on the euro region if the U.K.’s doesn’t secure a trade deal as part of its exit from the EU. Bundesbank board member Joachim Wuermeling warned such a scenario would make markets less efficient and more costly.

An orderly Brexit poses a “limited overall risk to the euro area’s financial stability,” Draghi said. “However, the uncertainty triggered by a cliff-edge Brexit could have the potential to pose a more significant downside risk.”

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