The European Central Bank's controversial decision to buy up government debt last month was made "in complete independence" from political pressure and sought to avoid a financial market meltdown, the bank's chief said Monday.
Jean-Claude Trichet told the European Parliament's economy committee that he was not acting under pressure from euro zone leaders when he reversed the bank's stance against buying bonds — risking criticism that the ECB was essentially printing money to help out heavily indebted states like Greece and Ireland.
He said the central bank for the 16 nations that use the euro acted because the situation in financial markets and the banking system had deteriorated sharply as EU governments dithered until early May on granting financial aid to Greece.
The turmoil was similar to the October 2008 panic after the collapse of U.S. investment bank Lehman Brothers "in terms of the suddenness of the change in sentiment and the abruptness of the flight to safety by international investors," Trichet said.
"These tensions were spreading to a wide range of financial market segments, including the stock market, the interbank market and the foreign exchange market," he said. "It was observed that the epicenter of these tensions lay in European debt markets, in particular those for government debt."
Market volatility increased sharply and the amount of funding available to banks "deteriorated significantly" as banks became more cautious about lending to each other. Ultimately this could have "seriously harmed" bank lending to businesses and households, he said.
The ECB has now spent some 51 billion euros ($63 billion) buying up bonds and acted to neutralize the extra money it effectively creates with the bond purchase program by removing the same amount of money from the economy.
Trichet, widely admired for his steady actions during the global banking crisis, seemed to see his influence slip in the last few months as EU leaders floundered over a bailout to Greece and financial help to other euro zone countries with ballooning budget deficits.
The European Central Bank could do little because the European Union's fundamental rules forbid it from buying debt directly from governments.
However, critics said the bank violated the spirit of those rules by buying bonds from the banks who bought them directly from governments — and hinted that the ECB had done so under heavy pressure from France and others, whose banks hold a lot of the risky government debt.
Trichet rejected this Monday, saying: "We also took the decision in complete independence."
He then took a stab at influencing how EU nations should reshape their economies and public finances, calling for "a true quantum leap" in budget oversight and broader policies to make Europe's economies more competitive.
Sanctions need to be "quasi-automatic" for countries that break EU limits on debt and deficit, he said, asking for them to be "applied much earlier and to be broader in scope" — weighing in when governments aren't making progress toward debt reduction targets.
Surveillance of public finances needed "mechanisms and machinery which is very strong," he said, urging for the creation of an independent agency overseen by the European Commission which could monitor government budgets.
He appeared to back Germany's call to strip countries of voting rights if their debt is too high, saying it should be among the options considered.
Trichet repeated his opposition to euro zone countries jointly issuing bonds — saying it was important that a government be responsible for its own debt.
He also rejected any suggestion that the European Central Bank should rate government debt, taking the task over from credit rating agencies such as Standard & Poor's, Fitch Ratings and Moody's who have been criticized by European politicians for downgrading some EU nations' debt.
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