BRUSSELS - More than ever before, the European Central Bank seems willing to consider bolder action to address the continent's financial crisis.
A month ago, at his first news conference as ECB President, Mario Draghi said it was "pointless" for European governments to expect the bank to rescue them through massive bond purchases. That had been the same stance as his predecessor, Jean-Claude Trichet. But On Thursday, Draghi hinted that such expectations might not be futile after all.
Draghi opened the door to further ECB intervention ever so slightly in a speech to the European Parliament. He said the bank is prepared to play a bigger, yet limited role in the resolution of Europe's debt crisis -- but only after the 17 countries that use the euro tether their economies more tightly.
Speculation is mounting that EU leaders will align their spending policies more closely to bring government debt levels under control in the future. This must happen, Draghi said Thursday, before the ECB or other institutions could take more aggressive steps to help prevent the continent's current debt overload from ripping apart the euro and the global financial system.
"Other elements might follow, but the sequencing matters," Draghi said. "And it is first and foremost important to get a commonly shared fiscal compact right."
Draghi gave the speech after delivering the bank's 2010 annual report to the European Parliament, a body of elected representatives to which the ECB is accountable.
Analysts' decoding Draghi's message -- which was delivered in typically vague central bank speak -- sensed an opening they hadn't heard before.
"Draghi seems to suggest that if a fiscal compact does get approval and looks credible then the ECB can shift gears and become more interventionist," said Neil MacKinnon, global macro strategist at VTB Capital.
Adds Laura Veldkamp, an economics professor at New York University: "I would say this is a big change. Traditionally, the ECB has seen its only objective as maintaining a stable, low rate of inflation.
"The very idea that he's (considering) doing something to stabilize bond markets ... is a big change," Veldkamp said.
Still, Draghi's comments were laced with enough caveats to temper the euphoria that swept across financial markets Wednesday, when the ECB, the Federal Reserve and four other central banks took decisive action to make it cheaper for commercial banks to borrow dollars.
The ECB cannot lend directly to governments, including by buying their national bonds. It can, however, buy national bonds on the secondary market, lowering borrowing costs for governments. The ECB has committed just over C200 billion ($268 billion) to such purchases, but it has resisted going further because it believes that would take the pressure off politicians to cut spending.
Draghi said such interventions "can only be limited" and said it was up to governments to first put their finances in order to convince bond markets that they are creditworthy borrowers.
"Governments must -- individually and collectively -- restore their credibility vis-a-vis financial markets," said Draghi, who only replaced Jean-Claude Trichet as ECB head a month ago.
Three relatively-small countries -- Greece, Ireland and Portugal -- had to be bailed out because of unsustainable debt levels, and Italy, the eurozone's third-largest economy, is facing intense strains as its borrowing costs surge. The big worry in the markets now is that Italy, with its debt mountain of C1.9 trillion ($2.55 trillion) is just too big to bail out under current rules.
A summit of EU leaders on Dec. 9 is expected to focus on how to make the eurozone more unified. Analysts say the eurozone has little choice but to back proposals for much closer co-ordination of their spending and budget policies.
The hope is that a closer alignment of budget policies will convince markets that countries as disparate as Greece, Germany, Spain and Finland, can coexist in the same currency zone.
Speeches over the coming couple of days from French President Nicolas Sarkozy and German Chancellor Angela Merkel will be closely monitored to see how their thinking is developing in the run-up to next week's make-or-break summit.
Since the euro was established in 1999, the rules governing the eurozone have been fairly lax. A commitment for countries to keep their budget deficits in check was violated on numerous occasions, including by Germany, Europe's biggest economy.
Draghi said the joint intervention by the six major central banks was only a temporary measure. Still, the move was wildly cheered in the markets on Wednesday, with the Dow Jones industrial average rising nearly 500 points.
On Thursday, the Stoxx 50 index of leading European shares closed 0.5 per cent lower though there were encouraging signals in the bond markets, where the borrowing rates of France, Italy and Spain all fell amid hopes of an imminent resolution.
France and Spain survived a test of investor sentiment Thursday, selling all the bonds they offered at rates lower than feared.
Still, the eurozone economy shows all the signs of returning to recession.
A survey of the eurozone's manufacturing sector by the financial information company Markit showed that output fell in November for the fourth month in a row, and at a deeper pace. Also on Thursday, credit rating agency Standard & Poor's warned that a mild recession has a 60 per cent probability while a more severe one has a 40 per cent likelihood.
"Europe's approaching recession first took hold in Spain, Portugal, and Greece, and the economic woes are now spilling over into the eurozone's core of France and Germany," Standard & Poor's chief Europe economist Jean-Michel Six said.
Wednesday's co-ordinated action by central banks will reduce borrowing costs for banks, but it does little to solve the underlying problem of mountains of government debt in Europe, leaving markets still waiting for a permanent fix.
In theory, the ECB has unlimited financial firepower through its ability to print money. However, Germany's leaders find the idea of the ECB intervening in this way unappealing, arguing that it lets the more profligate countries off the hook for their bad practices. In addition, it conjures up bad memories of hyperinflation in Germany in the 1920s.
Veldkamp, the NYU economist, said the preconditions Draghi laid out to any further ECB action allowed him to address two audiences: bond traders worried about a financial meltdown; and Germans and other Europeans who worry that overly aggressive ECB policy will trigger inflation.
One option that appears to be gaining traction would be to have the ECB provide the International Monetary Fund with more resources so it can then lend that money to countries that need financial help.
"Draghi didn't rule out the ECB providing funds to the IMF to provide to Italy, but he's equally making it very clear that the ultimate solution lies with the governments," said Simon Derrick, a senior analyst at the Bank of New York Mellon.
