The European Central Bank (ECB) is “very worried” that member states are not adhering to the fiscal rules of Brussels. This is because the bank fears it will be unable to use its emergency tool to prevent a French bond market crash after the upcoming election.
Christine Lagarde said that the ECB was “monitoring’ the recent increase of French bond yields spreads against Germany. The spreads reached a seven-year peak after President Macron decided to hold a snap parliamentary elections where the hard right won the most votes in the first round.
Lagarde made her comments amid increasing speculation that a populist French government might not qualify for ECB’s emergency bond buying if investors drive up borrowing costs in the coming week to unsustainable levels.
The ECB must do what it is required to do. Lagarde said that the ECB’s mandate was price stability. “Price stability is clearly reliant upon financial stability, and we are aware of that because it is part our job,” Lagarde said at an ECB Conference in Sintra. “We monitor [bond rates], this is part our job. We do it all the time, and we’re very attentive.”
Christian Lindner said that the ECB could “illegally” intervene on the French bond markets using its “transmission-protection instrument.” The ECB set this up in 2022, after Italy’s borrowing rates spiked due to political uncertainty which led to the Brothers of Italy party gaining power.
The ECB has never used its emergency tool. It is intended to protect a state against “unwarranted and disorderly market dynamics” that could pose a threat to the transmission monetary policy in the euro zone. In order for a country’s government to qualify for financial assistance, it must take steps to repair its public finances. This is a position any new French government will have to adopt, as France has breached the EU budget deficit limit of 3 percent.
After Marine Le Pen’s National Rally won over 33 percent of the vote in the first round of the parliamentary election, the spread between French bonds and German bonds narrowed. An alliance of leftists came second with 29 percent.
Le Pen stated on Tuesday that she was willing to work with any other party if her National Rally did not achieve an absolute majority of 289 French Parliament seats. The second round of voting ends on Sunday.
The eurozone’s headline rate of inflation fell to 2.5% last month, but prices in the service sector remain stubbornly high.
The average headline inflation rate in the 20-country group was driven down by lower energy and goods prices, but the services inflation rate, which makes up nearly half of eurozone inflation, remained unchanged at 4.1% in June.
Lagarde, who is the head of the ECB, said that rate-setters did not take “disinflation as a given” when they cut rates last month.
She said that the ECB would re-examine each step before its next meeting, scheduled for July 17.
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