By Ambrose Evans-Pritchard at The Telegraph
European stocks have suffered the steepest one-day fall in 15 months after the European Central Bank retreated from pledges for a €1 trillion blitz of stimulus and failed to clarify the scale of quantitative easing.
The sell-off came amid a mounting political storm in Europe as leading German economists and jurists reacted with fury to the ECB’s first asset purchases, denouncing the move as monetary debauchery, and threatening a blizzard of lawsuits in the German courts. “Our worst fears are being fulfilled,” said Hans Werner Sinn, head of Germany’s IFO Institute.
The Milan bourse tumbled almost 4pc, led by sharp falls in Italian banks counting on fresh ECB liquidity. The Eurostoxx 600 index was off 2.4pc and the FTSE 100 fell 1.7pc to its lowest level this year, with effects spreading through global markets.
Mario Draghi, the ECB’s president, seemed unable to secure backing for far-reaching measures from Germany’s two ECB members or from the German finance ministry, forcing him to play down earlier hints for a €1 trillion boost to the ECB’s balance sheet.
As he spoke inside a renaissance palace in Naples, riot police doused crowds of protesters on the street outside with water cannon. The city has become a political cauldron, with the highest “misery index” Europe. Youth unemployment in Italy's Mezzogiorno is still rising, topping 56pc in the second quarter.
Mr Draghi said the ECB would start to buy covered bonds and asset-backed securities (ABS) as soon as this month, but gave no concrete figure and deflected all questions on the scope of stimulus. “I wouldn't want to emphasise the balance sheet size per se,” he said.
Sovereign bond strategist Nicholas Spiro said the ECB was “backtracking” on earlier pledges and seemed to be losing confidence in its ability to halt deflation at all. “Mr Draghi is facing a severe credibility problem,” he said.
Investors have been counting on the ECB to pick up the baton as the US Federal Reserve winds down asset purchases, keeping the global financial system supplied with liquidity. It is a nasty shock to discover that there may now be a hiatus, at a time when the eurozone is flirting with a deflationary slump and emerging markets are under heavy pressure.
Jacques Cailloux, from Nomura, said Mr Draghi has his hands tied. “Germany is obviously a major impediment. The ECB know they can’t do much and are just try to keep up confidence. What they are doing is minimal and will not have any effect on inflation over the next two years. Their statement reads like the sort of thing the Bank of Japan put out in 2003,” he said.
Mr Cailloux said the eurozone requires a full-blown New Deal to break out of the deflationary trap. “Small measures will achieve nothing. This needs something really serious,” he said.
Yet Mr Draghi’s “QE-lite” is already enough to enflame opinion in Germany, where the anti-euro AfD party has swept into three state legislatures. There was criticism across the political spectrum, with even the Social Democrats and the Greens denouncing the first tentative steps towards QE as a dangerous new departure.
“I have never seen such outrage in Germany at the actions of a European institution. The ECB is becoming a sink for nuclear waste,” said Gunnar Beck, an expert on German law at the London University.
“The ECB is going to buy junk bonds from Greece and Cyprus, and probably Italy, too. This is socialisation of risk and is completely illegal. I can tell you there are lawsuits already in the pipeline,” he said.
The circumstances are nothing like August 2012, when Mr Draghi had the full support of Germany’s finance ministry for his debt plan (OMT). This time the German establishment is against him. “It's very different,” said Moritz Kraemer, from Standard & Poor’s.
Mr Draghi has an almost impossible task pleasing both sides, accused with equal vehemence of doing too much, and too little. “It is very understandable why people are Eurosceptic,” he confessed.
“Things are not going well, with some countries in a recession that never ends. In other parts of Europe people feel they are paying for everybody else,” he said, insisting with a flash of emotion that the ECB is “not the guilty actor” in all that has gone wrong.
Jurgen Stark, the ECB’s former chief economist, said the ECB had “thrown off” the Maastricht Treaty and was setting monetary policy for the “problem members” rather than for the whole eurozone. This will lead to inevitable conflicts of interest.
“The ECB’s decision to double down on stimulus is an act of desperation. Its willingness to buy ABSs is especially risky and creates joint liability, with European taxpayers on the hook. The ECB lacks the democratic legitimacy to take such far-reaching decisions,” he said. Mr Stark said the ECB was engaged in a naked attempt to drive down the euro’s exchange rate, buckling to “immense political pressure” from France and Italy.
In this Mr Draghi has been successful. The euro has plummeted 9pc against the dollar since May. Lord Turner, Britain’s former top regulator and now a monetary theorist, said it is far from clear whether talking down the euro will save Europe. “Everybody wants to drive down their currency. But since Japan, China and Europe are all trying to do it at the same time,this cannot work for the whole world,” he said.