ECB May Buy Eurozone Bonds to Drive Down Borrowing Costs

on Aug 2, 2012
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Following its latest monthly meeting on Thursday (August 2), the European Central Bank (ECB) indicated that it plans to buy government bonds. The proposed bonds-buying programme is aimed at bringing down borrowing costs for indebted countries like Italy and Spain, caught in the grip of what ECB President Mario Draghi called a “worsening crisis.” In this latest move to contain the Eurozone crisis, Draghi remarked that any intervention would not come before September and only after EU governments activate the Eurozone’s bailout funds to join the ECB in buying bonds.

The bank’s president called on Eurozone politicians to activate the rescue funds — the European Financial Stability Facility (EFSF) and the European Stability Mechanism (ESM), to purchase sovereign bonds “when exceptional financial market circumstances and risks to financial stability exist – with strict and effective conditionality in line with the established guidelines”.

!m[](/uploads/story/225/thumbs/pic1_inline.png)In response to the ECB call for bond-buying, the German Central Bank chief, Jens Weidmann, expressed reservations, showing that further efforts would be needed to persuade the Bundesbank before a final vote to take action. Addressing the concerns regarding the ECB bonds action, Draghi explained that the proposed bond purchases would not be the same as the purchases made in the past. This bond-buying will be focused on shorter-maturity sovereign debt and may come after countries have decided to request help from the bailout funds and have agreed to the conditions attached to financial support. The bank president also announced that ECB policymakers will work on a more detailed plan in the coming weeks, including how much money to put into the effort to lower interest rates on governments’ short-term bonds.

At its latest meeting, the ECB highlighted the need of action to bring borrowing rates down, hoping to achieve better results than the earlier bond purchases that had only limited impact. In 2010, the European Central Bank bought €211.5 billion (£166 billion) worth of government debt from Spain, Italy, Greece, Portugal and Ireland. The bank mothballed the programme late last year in the face of criticism from other Eurozone countries, notably Germany, which said the programme contravened an ECB ban of direct central bank state financing and would fuel inflation in the Eurozone.

A final decision regarding the newly proposed bond-buying programme will follow after September 12, when Germany’s top court rules on the ratification of the ESM, which will replace the existing EFSF. Some analysts, however, believe that there are significant obstacles to such a move. The ESM cannot come into force until all 17 Eurozone members, including Germany, agree to the move, and the Finns and Dutch have already expressed their reluctance.
The temporary EFSF has €440 billion (£345.7 billion) in lending power, most of it committed to the bailouts for Greece, Portugal and Ireland. The ESM, which still has not come into effect, will have €500 billion (£392.9 billion) — one-fifth of which is already committed to bailing out Spain’s banks.

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