Italy in the frame

Financial Crisis

ECB to protect Europe by buying bonds

The European Central Bank is expected to signal it is stepping into
the eurozone debt crisis on Thursday by reopening its purchases of
government debt, amid fears the turmoil will claim the economy of a
nation that is “too big to bail”.

By Bruno Waterfield, and Emma Rowley

7:30PM BST 03 Aug 2011

Officials on Wednesday night said the ECB’s monthly meeting was
expected to see a reversal on the buying of sovereign bonds after 18
weeks of staying out of the markets, because of an EU institutional
vacuum that threatens to drag down Italy and Spain, the region’s third
and fourth-largest economies.

With EU officials scrabbling to fine-tune changes to allow the
eurozone’s €440bn (£384bn) bail-out fund to intervene in the markets,
central bankers are expected to reluctantly accept the precedent of
allowing ECB bond buy-backs in May 2010.

Measures allowing the European Financial Stability Facility (EFSF),
the bail-out fund created last summer, new powers to buy the bonds of
struggling countries were agreed at an emergency euro summit on July
21 in an attempt to protect Italy (whose public debt and bank exposure
is shown in the interactive graphic above) and Spain.

However, legally changing the basis of the EFSF and ratifying the
changes in 17 eurozone countries, where the expanded fund’s role is
controversial in German, Dutch and Finnish parliaments, could take
weeks or even months, leaving a dangerous vacuum.

“We’re watching the ECB which, unlike the eurozone, can intervene now
and build a bridge until the EFSF can take up its new role in the
autumn,” said an official.

Meanwhile, European Commission President Jose Barroso urged
governments to quickly approve the beefed-up fund, warning of market
fears leaders have not found a “systemic” solution.

The need for a buyer of last resort is intensifying as the yield, or
implied interest rates, on Italian and Spanish government debt sticks
above the 6pc mark, well into the danger zone. Markets spooked by the
recent threat of a US default have now returned their focus to the
eurozone crisis, amid fears over a global economic slowdown which will
make struggling nations’ debts even harder to support.

Italy and Spain are seen as too big to rescue under the current
system, which has already bailed out Greece (twice), Ireland and
Portugal.

Silvio Berlusconi, the Italian prime minister, on Wednesday night
insisted markets were misreading Italy’s “solid economic fundamentals”
after Rome’s main FTSE MIB index closed down 1.5pc, leaving it 27pc
off its recent peak in mid-February.

However, Italy, with a debt equivalent to 120pc of GDP, is on an
unsustainable path and “bound to default” on its obligations, while
Spain is better placed but may still get dragged down in the turmoil,
according to forecasts from the Centre for Economics and Business
Research. The think-tank is now “pessimistic” about the euro’s
survival. If one country defaults other euro members will face higher
borrowing costs, making devaluing their currency by leaving the
monetary union more attractive, it said.