December 3, 2010 / 5:24 AM / 9 years ago

ECB bond buying eases euro zone market stress

LONDON/PARIS (Reuters) - European financial markets steadied on Friday as the European Central Bank kept on buying euro zone government bonds in modest amounts to reverse a debilitating rise in peripheral countries’ borrowing costs.

A large euro sign installation is seen in front of the European Central bank in Frankfurt, November 4, 2010. REUTERS/Kai Pfaffenbach

But European governments and central bankers continued to squabble over longer-term solutions to the 16-nation single currency area’s debt crisis, ranging from a bigger bailout fund to common euro zone bonds or a fully fledged fiscal union.

In Spain, one of the euro states in the markets’ firing line, the cabinet rushed through new privatisation measures by decree, raised tobacco tax, and promised a long-awaited pension reform on January 28, expected to push back the retirement age.

EU paymaster Germany rebuffed Spanish calls for a closer fiscal union to underpin Europe’s monetary union, seen as code for transferring more funds from rich to poorer states.

“There are no plans and there is no desire for a joint fiscal policy,” Chancellor Angela Merkel’s spokesman told a news conference.

Despite weeks of market turmoil, ECB President Jean-Claude Trichet declared “there is no crisis of the euro as a currency” but hinted that euro zone governments should increase the size of their financial safety net to calm markets.

“It is extremely important that everything is commensurate to the dimension of the challenges,” Trichet told reporters in Paris, in response to a question about reports European governments might need to boost a 750 billion euro bailout fund.

Trichet also called for a “quantum leap” in fiscal governance in the euro area but did not spell out what he meant.

The risk premium on Portuguese, Irish and Spanish 10-year bonds over safe-haven German Bunds tumbled on Friday as traders said the ECB steadily bought relatively small chunks of Portuguese and Irish bonds for a third straight day.

The Portuguese yield spread tightened 43 basis points to 313 bps, its narrowest since late August and more than 150 points below this month’s euro lifetime high of 480.

Trichet’s ECB colleague, Ewald Nowotny, said the ECB had used its bond-buying programme “energetically” this week.

But there was no sign of the “shock and awe” scale of purchases that some analysts said it would take to halt mounting pressure on euro zone sovereigns that is squeezing Portugal and Spain after forcing Greece and Ireland to seek bailouts.

“It remains to be seen whether the ECB is really picking up the pace of bond buying, but I wouldn’t count on it. They’ve certainly shown a lack of appetite in the past,” said Everett Brown, strategist at IDEAglobal in London.

The euro strengthened to around $1.3360, well above the three-month low the single currency hit on Tuesday, but European shares turned negative after disappointing U.S. jobs data.

S&P CRITICISES EU PLAN

Whether the ECB’s show of deterrence and Trichet’s hints of possible firmer action will be enough to stop market wildfire spreading through the euro zone remains uncertain.

“So far, politics has lost out against the market. What is needed now is a clear, unambiguous solution that makes the market realize the political will to keep the euro is so big that speculation and panic can be turned off,” said economist Andreas Scheuerle at Germany’s DekaBank.

In Ireland, the opposition Fine Gael party said the teetering government’s 2011 austerity budget was likely to pass in parliament next week, opening the way for quick access to EU/IMF bailout funds and removing one potential trigger for a new round of the euro zone crisis.

But the fragility of European governments’ efforts to stem the debt crisis shaking the 16-nation single currency area was underlined when credit ratings agency Standard & Poor’s said on Thursday it may cut Greece’s BB+ rating in three months’ time.

S&P singled out German-driven EU plans to make private bondholders share the burden of any future default by a euro zone sovereign after 2013 as one reason for its decision.

A statement by EU finance ministers that future rescue loans by European governments would have seniority over all other creditors except the IMF reduced the prospects of private bondholders being repaid in full, it said.

Trichet, who has voiced concern about making private bondholders share losses in any future default, said on Friday that EU governments must state clearly they will not seek “haircuts” and debt restructuring as a condition for giving aid.

In Madrid, Spanish Economy Minister Elena Salgado said the cabinet had approved by decree the planned sale of stakes in public airports and the national lottery to reduce next year’s borrowing requirement.

She also told BBC radio that the European Union could not have a common currency without a common economic policy and stronger joint economic governance.

German Finance Minister Wolfgang Schaeuble was quoted on Friday as saying European governments had all the means needed to save the euro and could count on global support. He also predicted financial markets’ nervousness would gradually ease.

Germany and France hold particular responsibility in Europe, but they must also show consideration for other nations, Schaeuble said.

Schaeuble added that the idea Germany would help another euro zone member state out of sheer generosity was “simply nonsense.” Germany acted in its own interests when helping other countries, he added.

The German public seem less and less wedded to the euro project. A television poll showed around 60 percent of Germans believe they have lost out by adopting the euro though a huge majority see a stable euro as in Germany’s interests.

On Thursday, Trichet provided relief for commercial banks in peripheral euro zone countries, some of which are frozen out of interbank lending and have become totally dependent on the ECB for funds, by announcing the bank would continue unlimited funding at its base rate for at least another three months.

And he sought to deter speculation against euro zone debt by reminding markets that the central bank was continuing to buy government bonds and explicitly did not discourage market expectations that it would be stepped up.

additional reporting by Leigh Thomas in Paris, Dave Graham and Annika Breidthardt in Berlin, Mohammed Abbas in London; writing by Paul Taylor; editing by Mike Peacock

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