ECB's Mario Draghi unveils bond-buying euro debt plan

 

ECB president Mario Draghi: "We will have a fully effective backstop to avoid destructive scenarios"

Mario Draghi, president of the European Central Bank, has unveiled details of a new bond-buying plan aimed at easing the eurozone's debt crisis.

He said the scheme would provide a "fully effective backstop" and that the euro was "irreversible".

The ECB aims to cut the borrowing costs of debt-burdened eurozone members by buying their bonds.

The Spanish government's implied borrowing costs fell sharply after the announcement.

Mr Draghi said the ECB would engage in outright monetary transactions, or OMTs, to address "severe distortions" in government bond markets based on "unfounded fears".

He insisted that the ECB was "strictly within our mandate" of maintaining financial stability, but reiterated the need for governments to continue with their deficit reduction plans and labour market reforms.

He added that the ECB's actions came in response to eurozone economic contraction in 2012, with continued weakness likely to continue into 2013.

The ECB expects the eurozone economy to shrink by 0.4% in 2012 and grow by 0.5% in 2013, with inflation rising to 2.6%.

Start Quote

Some in the financial markets - and many governments - will certainly be disappointed that it has taken so long for the ECB to step up to the plate”

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OMTs will only be carried out in conjunction with European Financial Stability Facility or European Stability Mechanism programmes, he said.

In other words, countries will still have to request a bailout before the OMTs are triggered.

The maturities of the bonds being purchased would be between one and three years and there would be no limits on the size of bond purchases, he added.

The ECB will ask the International Monetary Fund to help it monitor country compliance with its conditions.

Market reaction

Mr Draghi is hoping that ECB intervention in the bond markets will help reduce the borrowing costs of debt-laden countries such as Spain and Italy and lessen the likelihood of them needing to ask for a full sovereign bailout, an eventuality that could bankrupt the eurozone and cause the collapse of the euro.

Analysis

This new proposal is different from the ECB's previous bond-buying programme in important ways.

The bank accumulated more than 200bn euros in bonds issued by Greece, Ireland, Portugal, Italy and Spain under its Securities Market Programme, but those purchases were always described as limited, and they were never accompanied by any formal conditions.

The OMT, on the other hand, is described by Mr Draghi as potentially unlimited in size.

Countries will first have to apply for assistance to eurozone bail-out funds, and they will have to agree to 'strict and effective' monitoring of efforts to reform their economies.

Ideally, the ECB would like the International Monetary Fund to be involved in that process too, and the Fund says it is ready to co-operate.

It all begins to sound like 'bail-out lite' - and it puts the ball firmly in the court of political leaders like Mariano Rajoy in Spain and - a little further down the line - Mario Monti in Italy.

They will have to decide whether they want more intrusive external surveillance of their economies - something they have been keen to avoid.

Spain is already benefiting from investors' response to the plan.

Earlier in the day, the Spanish government raised 3.5bn euros on the debt markets, selling bonds due to mature in 2014, 2015 and 2016.

The implied cost of borrowing over two years fell from 4.71% to 2.80%; the three-year rate went from 5.09% to 3.68%; and the four-year borrowing cost fell from 5.97% to 4.60%.

On the secondary market, where government bonds already in circulation are traded by banks and other financial institutions, the yield on 10-year bonds fell below 6%. In recent months, yields had topped 7%, the level at which Ireland, Portugal and Greece had been forced to seek international bailouts.

The yield on Italian 10-year bonds also fell.

Investors in European companies also appeared upbeat about the plan. European stock markets closed up.

The FTSE 100 ended 2.1% higher; the German Dax, 2.9%; the French Cac 40 index, 3.1%; and the Spanish IBEX, 4.9% at the close.

Bank shares in particular rose sharply, as they stand to lose billions of euros should any eurozone government default on its debts as a consequence of the crisis.

French banks Credit Agricole and Societe Generale both closed up 8%, while in Germany, Deutsche Bank rose 7% and Commerzbank, 5%. In London, Lloyds banking group rose 7%.

Long-term financing

Responding to the plans, Peter Westaway, chief economist for Europe at asset manager Vanguard, said: "This is just the good news that was priced by the markets, and it has now been confirmed."

However, the euro fell back against the dollar to $1.2571 following its high of $1.265 reached before the ECB announcement.

"There is a long-term question of whether this will be enough to meet the long-term financing needs of Italy, and that probably remains."

Crisis jargon buster
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AAA-rating
The best credit rating that can be given to a borrower's debts, indicating that the risk of borrowing defaulting is minuscule.

While Mr Draghi was announcing the ECB's plans, German Chancellor Angela Merkel was meeting Spanish Prime Minister Mariano Rajoy for talks on the eurozone crisis.

In a joint news conference afterwards, Mrs Merkel said: "We have to restore confidence in the euro as a whole, so that the international markets have confidence that member countries will fulfil their commitments."

Mr Rajoy said: "We want to dispel any doubts on the markets about the continuity of the euro."

Global risk

Jens Weidmann, president of Germany's Bundesbank, remains vigorously opposed to the ECB's plan, concerned that member states could become hooked on central bank aid and fail to reform their economies sufficiently.

But the majority of the 23 ECB council members support the plan.

And the Organization for Economic Co-operation and Development (OECD) added its support for the ECB bond-buying plan on Thursday, as it warned that the eurozone crisis posed the greatest risk to the global economy.

It is calling for more action from central banks to prevent a break-up of the eurozone.

"Concerns about the possibility of exit from the euro area are pushing up [government bond] yields, which in turn reinforces break-up fears," the OECD said in its global economic outlook.

"It is crucial to stem these exit fears. This could be achieved by the ECB undertaking bond market intervention to keep spreads within ranges justified by fundamentals."

In other eurozone news:

  • The central bank kept the benchmark eurozone interest rate unchanged at 0.75%.
  • The unemployment rate in Greece rose to 24.4% in June from a revised 23.5% in May, according to the Elstat statistics service. However, Spain remains the eurozone nation with the highest jobless rate, at 24.6% in June.
 

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  • rate this
    +12

    Comment number 119.

    The answer, according to "Super Mario", is to do exactly what Frau Merkel and the Finss have said can't happen. We have Eurobonds guaranteed by the ECB despite this being Ultra Vires. The German Constitutional Court will be handed a fait accompli.
    The PIIGS have been "saved" by mutualising their debts to European tax payers.
    What if the Germans, Finns and Dutch turn round and say we won't pay?

  • rate this
    +4

    Comment number 118.

    The Euro was meant to bring all these countries together, but now its in trouble we see that each is out to save only their own bacon.
    Face facts... the Euro is a farce and destined for failure.
    Give it up now as we are all sick to the back teeth of the lack of progress.

  • rate this
    +1

    Comment number 117.

    Two years late could the ECB finally be stepping up to the plate as a lender of last resort?

    It would appear so but not before forcing governments into 'bailout' measures.

    It seems that a non-democratically elected ECB will be allowed to dictate policy of democratically elected governments.

  • rate this
    +1

    Comment number 116.

    The bond-buying is supposedly to calm the "unfounded" fears of the markets. I would think that the fears of the hard headed businessmen who run the markets are very well founded in cold hard economic facts. Still, if signor Draghi says so, I am sure the Euro is just as irreversible as the Titanic was unsinkable.

  • rate this
    0

    Comment number 115.

    The Tories were blaming Gordon Brown for this not so long back.

  • rate this
    +1

    Comment number 114.

    I suspect that the Germans thought that a federal Europe would follow very soon after the Euro (and they would have achieved European dominance). Unfortunately no one would play ball and kept their own sovereignty. The PIIGS borrowed cheaply up to the hilt but with no way of paying it back.

  • rate this
    +3

    Comment number 113.

    Post 101, where did you read that? Hyperinflation in Germany occurred well before WW2. It had more to do with the treaty of Versailles. However, the flooding of the system with printed money was indeed the cause, but it had nothing to do with revenge on Hitler as far as I know.

  • rate this
    +5

    Comment number 112.

    When the € project was being debated hypothetically, > 20 yrs ago, the arguments against, from those like me, were usually around economic incompatibility of the countries, and irreversibility.

    One of the strongest arguments I ever heard in favour of the € was that you'd save £2 in exchange rate fees at Gatwick airport!

    Seriously, is anyone able to remind us what the benefits really were?

  • rate this
    +5

    Comment number 111.

    This never was a euro crisis. It was a debt crisis - in the UK as well as some EU countries. Leaving Greece on one side, other states got into trouble rescuing their banks. A banking union will hopefully get banks off the books of states and be allowed to fail if they lend too much or can't borrow enough. There are unique features about the Greek situation but they are small within the total.

  • rate this
    +2

    Comment number 110.

    The so called success of the euro was built on debt, in order to keep the illusion going euro zone countries are being encouraged to borrow more. Some day it will have to be repaid but not before the EU fully becomes a superstate, politicians will do whatever it takes to make sure that happens, lie, beg and cheat.

  • rate this
    -2

    Comment number 109.

    In a few years time after the Eurozone has collapsed and we've eventually pulled ourselves out of this economic mire, people will look back at this period of ridiculous attempts to fix the unfixable and will say what were we doing.

    And with any luck will track down the people responsible with pitchforks and flaming torches.

  • rate this
    0

    Comment number 108.

    Can anyone explain how this will save the Euro? the PIIGS have borrowed too much so they will borrow even more by selling bonds to the ECB to get out of debt!!!
    Instead of buying Bonds, why doesn't the ECB buy the initial debt from the creditors then refinance it back to countries at a lower/more stable rate.

  • rate this
    +2

    Comment number 107.

    The contortions the ECB and other institutions are going thorough to maintain the Euro are becoming more and more bizarre. I can imagine the voters of Germany may now consider whether the break up of the Euro is the LESSER of two evils rather than letting the ECB finance the debt of countries who will now do nothing to address the root issues within their economies.

  • rate this
    +1

    Comment number 106.

    105. Louis Wynne

    This seems a thoroughly sensible approach. It is important to recognise that it was the trade in debt liabilities which sparked the intial credit crunch & a collapse in corporate confidence destroyed share prices.
    -
    Is it just me? Isn't this just MORE (ECB sponsored) trade in debt liabilities - and doomed to the same failure through lack of market confidence?

  • rate this
    -5

    Comment number 105.

    This seems a thoroughly sensible approach. It is important to recognise that it was the trade in debt liabilities which sparked the intial credit crunch and a collapse in corporate confidence destroyed share prices. This translated to a national level, through bond markets, following multiple state bailouts and the real issue is market confidence not real world probelms. Free markets have failed.

  • rate this
    0

    Comment number 104.

    @80.Expat Andy
    "These Keynesiansian, centrally planned economies are working we"
    Keynes merely said that if you spend money in your own economy you create demand, which creates production and jobs. Jobs cause more tax to pay off the debt you incurred starting the economy. Thatcher to Cameron (inclusive) have spent money abroad. This removes demand from the UK and kills the economy.

  • rate this
    -1

    Comment number 103.

    Whats the difference between what the Bank of England are doing in the UK and the ECB is [Unsuitable/Broken URL removed by Moderator]. The BOE is buying up Goverment bonds.

  • rate this
    +2

    Comment number 102.

    The ECB is treating the symptoms of a problem that requires a political solution. A common currency cannot be successful in the long run with 17 different national budgets and economic policies run by 17 sets of politicians answerable to 17 different electorates. Budgetary union is required and that implies political union as well--that's why Brussels is so keen to save the euro at any cost.

  • rate this
    +1

    Comment number 101.

    @91, the only reason u saw hyper-inflation in Germany during WW2 is because the Reich Bank flooded the country with biilions & billions in revenge for Hitler taking the issuance of currency out of the banks control & put it in his governments control. (it is the only 1 good thing that hitler ever did) it is always the banks that cause these recessions/depressions etc. haven't u learnt from history

  • rate this
    +26

    Comment number 100.

    Here we go again, yet another policy to save the Euro, two years of policies and funds that have done nothing. Its about time these politicians wake up and smell the coffee, the Euro has no future.

 

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