I've written a number of columns over the last two months on the growing rift between Mario Draghi and Germany, for example here and here. Now Reuters has published a detailed report that provides plenty of fresh color on the deteriorating relationship, not least between the European Central Bank president and Jens Weidmann, the president of Germany's Bundesbank, which is said to be "totally rotten, broken beyond repair." The risks arising from this rift cannot be overstated.
The reality is that Mario Draghi brought this situation upon himself. He overplayed his hand in August and September, first in his speech at the annual central banker's jamboree at Jackson Hole, when he effectively told Germany to boost spending to deliver a fiscal stimulus to the eurozone, and secondly in September, when he got the ECB to back a QE-lite program and introduced the size of the ECB’s balance sheet as a policy target, thereby appearing to pre-commit the ECB to buying government bonds. These two sudden shifts took his colleagues, the markets and, crucially, German officials by surprise.
What has struck me in the intervening weeks is that opposition to Mr. Draghi’s direction of travel is equally strong in both Berlin and Frankfurt: in other words, he is up against both the Bundesbank and the German government. Although the Bundesbank has been careful not to close the door to QE, it is very hard to imagine the circumstances under which it would ever give its consent—and what makes the Bundesbank such a formidable opponent for Mr. Draghi isn’t the formal power that it possesses, which is limited, but the extent to which it shapes and reflects German public opinion.
By the same token, German officials have made it abundantly clear to me that if Mr. Draghi ever tries to buy government bonds, the ECB should be under no illusions that it will face multiple legal challenges from Germany and that the finance ministry will come under intense pressure to mount a challenge itself. If Mr. Draghi didn’t know it before, he must now realize that the political firestorm that would surround any decision to launch QE would be so destabilizing and do such damage to the ECB's credibility that it would undermine whatever good he hoped to achieve.
As I wrote in my column on Monday, this fight over QE in is shaping up to be—alongside the equally brutal fight over the French and Italian budgets—the defining ideological struggle over the future of Europe. Mr. Draghi got the job because he managed to convince the German public that he was more German than the Germans. The suspicion is hardening that he may be Italian after all.
This standoff with Germany has already damaged Mr. Draghi: at October’s ECB news conference, he was forced to row back on what he’d said the previous month, denying that the ECB had any target for the size of its balance sheet and thereby confusing the markets. At the IMF meetings in Washington this month, I got the distinct impression that a orchestrated “Support Mario” operation was under way, as loyal policy makers tried to explain away the inconsistencies between his September and October statements, and die-hard QE enthusiasts such as the International Monetary Fund suddenly seemed to go quiet on the subject while going out of their way to say what a good job Mr. Draghi was doing.
Indeed, the more people praised him, the more I felt sorry for him. Over the past three years, Mr. Draghi has proved himself to be a skillful central banker and a formidable politician. But he now finds himself forced to take sides between those who believe that QE-driven devaluation, cheaper borrowing costs and higher inflation offer the only path out of Europe's current malaise and those who believe not only that QE will do little to stimulate sustainable growth but that it is a backdoor route to a mutualization of eurozone debts and monetary financing of governments illegal under EU treaties. Worse, he has revealed his own allegiances, raising expectations he may now not be able to meet.
That is not a position in which any central banker would want to find himself.