How Super Mario stored up trouble for the Eurozone

A certain fictional gaming character hit the big screens over Easter, attracting some decidedly sniffy reviews. Meanwhile, but the longstanding shadow of another Super Mario still looms large over the plumbing of European finance – and his legacy has come in for criticism too.

It may have only been four years since Mario Draghi departed from his position as head of the European Central Bank – he later became Italy’s prime minister – but his “whatever it takes” promise on EU monetary policy still hangs over the Eurozone.

He gave that assurance back in 2012 in the heat of the euro crisis, making it clear to an audience in London that the ECB would ensure the bloc held together. But what Draghi said in the next sentence of this infamous speech is even more important to today’s world: “And believe me,” he said, “it will be enough.”

But will it though? The reality is that Draghi’s successor as head of the European Central Bank, Christine Lagarde, is confronted by a very different economic picture, one that’s dominated by high inflation and the aftermath of the Covid pandemic. In just two month’s time, European lenders must repay an eye-watering €549 billion (£484m), which they borrowed from the ECB’s refinancing operations programme three years ago, during the peak of the pandemic.

The package of three-year loans was part of a wider EU programme called “targeted longer-term refinancing operations” and it was one of the ECB’s central strategies for easing credit conditions and bank lending during the pandemic.

These loans were made at very low interest rates, but interest rates are now much higher. The ECB estimated that these loans were the equivalent of a big rate cut. The problem is that we now live in a world of higher interest rates. This forces banks to seek funding elsewhere – leading to escalating funding costs.

Already facing a tight squeeze as investors continue to adjust to the knock-on effect of higher interest rates, this is the last thing the European banking system needs right now.

Under Draghi’s leadership, the ECB offered ongoing support to the recovery of the euro area. However, the long-term viability of his decision-making has run headlong into today’s era of high interest rates.

The reality is that over a decade of continuous quantitative easing, where the bank buys up bonds, along with interest rates so low they even turned negative, was always going to store up problems, particularly when the time came for the ECB to raise interest rates. In an attempt to combat inflation, the ECB has raised the rate it pays on some of the bank deposits it holds.

Draghi was unquestionably a prominent player in some of the highly technical innovations that central banks developed after the financial crisis. While the eurozone economy grew continuously under his premiership, his “do whatever it takes” approach caused the ECB’s balance sheet to more than double in size since 2011.

But broadly, there is now a view that interest rates and more quantitative easing – sometimes referred to as “printing money” – can’t fix the current problems. Even Lagarde has suggested that governments need to do more. She has argued that countries that can afford it should spend more, in order to provide the eurozone economy with some stimulus.

Regardless of the path Lagarde and the ECB take, the legacy of Super Mario will have a lasting effect on decision-making. Let’s just hope Lagarde’s second act to this most unique of monetary sagas really will “be enough” to bring long-term stability to the Eurozone.

Tim Focas is Head of Capital Markets, Aspectus Group