WASHINGTON (AP) — The coordinated plan that the Federal Reserve and other central banks announced Wednesday is intended to ease financial strains that threaten Europe's common currency and could tip the global economy into recession.
The Fed, the European Central Bank, the Bank of England and the central banks of Canada, Japan and Switzerland said they would make it easier for banks to get dollars if they need them. Stocks soared in response.
The plan helped boost confidence among investors and lenders and shows that the banks are able to take coordinated action to encourage lending. But it isn't a permanent fix for the broader crisis in Europe: Debt burdens are overwhelming Spain, Italy and other nations and raising fears that they'll go into default. Banks that hold much of that debt have been reluctant to lend to each other.
Earlier, markets had fallen after the finance ministers of the 17 countries that use the euro failed to reach an agreement on resolving the crisis. That means major disputes will now have to be addressed by the leaders of all 27 countries in the European Union who will hold their own meeting next Friday in Brussels.
Here are some questions and answers about the crisis:
Q: Why the urgency now?
A: Earlier efforts, like bailouts of Greece, Portugal and Ireland, haven't convinced investors that European policymakers can or will ease the crushing debts of some European nations. Jittery investors are demanding that European governments pay ever-higher interest rates on their bonds. Yields on Italian bonds, for instance, top 7 percent. That's considered unsustainable. Even Germany, Europe's economic powerhouse, struggled to sell bonds last week.
Q: Why are higher interest rates such a problem?
A: Governments have to pay more interest on their debts. So they can't spend as much on goods and services that fuel economic growth. The economy slows. Tax revenue then falls. The cost of unemployment benefits and other social programs rises. Some countries might abandon the euro, plunging the continent and perhaps the world's economy into recession.
Q: Why would countries want to jettison the euro and go back to their own currencies?
A: To become more economically nimble. When they joined together 12 years ago, the 17 eurozone gave up their currencies and adopted the euro, and they surrendered control of their interest-rate policies to a new European Central Bank. That meant they couldn't cut rates to boost their economies. Nor could they reduce the value of their currencies, to give their exporters an edge. (A lower currency makes exports cheaper for foreigners to buy.) Abandoning the euro would let them escape an economic trap.
Q: How did Europe get into this mess?
A: The euro made it easier to do business across Europe and made the continent a potent economic bloc. Yet the experiment was flawed. Countries were harnessed to one another despite different economies and cultures. Banks lent at low rates even to weaker countries like Greece. The euro meant lenders didn't have to worry that individual countries would suffer inflation that would have reduced the value of their loans. Governments overspent for years and got away with it because they could borrow at low rates. But once the Great Recession hit hard, their debts became devastating.
Q: Why is a solution so hard?
A: The ECB and Germany have resisted aggressive action. Many economists want the central bank to buy the debt of Italy and other struggling countries. That would push down interest rates and ease those countries' borrowing costs. The ECB has bought Italian and Spanish bonds. But it's loath to do so in a big way. The ECB says it must control inflation, not be a lender of last resort to governments. And it doesn't want to set a precedent for bailing out financially ailing nations. Germany opposes one idea — creating joint bonds backed by the whole eurozone — because it fears its own borrowing costs would surge if it had to borrow jointly with weaker countries.
Q: What options have European officials considered?
A: Things that would have been unthinkable just weeks ago. One option would be to have countries cede control of their budgets to a central authority. That authority would stop countries from spending beyond their means. There has also been talk of forming an elite group of euro nations to guarantee each other's loans. It would require fiscal discipline from any country that wants to join. Once that happens, the ECB might be more willing to buy government bonds aggressively, thereby pushing down interest rates and easing governments' debt burdens.
Q: What would happen if some countries left the eurozone?
A: It could be catastrophic. Depositors would pull money from banks in weak countries that dropped the euro. Savers wouldn't want their euros replaced with weaker national currencies. If countries tried to repay their euro debts with their own currencies, they'd be considered in default. They'd struggle to borrow. So would corporations. Economists at UBS estimate that the economy of a weak country that left the eurozone would shrink 50 percent.
Q: Could a strong country like Germany leave the eurozone to avoid the damage?
A: Not necessarily. Germany's currency would likely shoot up if it did. Its exports would then become costlier for foreigners. UBS says that if Germany left the eurozone, its economy would decline 20 to 25 percent.
Q: Can Europe's leaders solve this mess?
A: The coordinated move the central banks announced Wednesday is expected to ease pressure on the financial system in the short run. But a real resolution to the crisis involves getting up to 17 countries and the ECB to agree on a solution for both easing government debt loads and imposing budgetary discipline. "This is not just a crisis of Greece or this or that country," says Nicolas Veron, senior fellow at the Brussels-based think tank Bruegel. "It's a crisis of European institutions."
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