ECB INTERVENTION:EUROPE'S BOND markets exhaled a sigh of relief yesterday, as the cost of borrowing for the region's two largest peripheral economies finally fell thanks to intervention from the European Central Bank.
However, the move by the bank to shore up Italy’s and Spain’s funding costs by stabilising bond yields is unlikely to be a magic bullet that solves Europe’s sovereign debt crisis. Instead it is seen by many as just a short-term, stop-gap solution.
Following an announcement on Sunday evening from the ECB that it would “actively implement” its Securities Markets Programme, it moved to purchase bonds of both Italy and Spain yesterday morning.
This pushed the cost of funding for both sovereigns down by the most since the euro began in 1999, with yields on 10-year Italian bonds dropping by as much as 82 basis points to 5.26 per cent.
The yield difference between Italian debt and German bunds narrowed to 303 basis points after reaching the euro-era record of 416 basis points last week.
Spanish bonds declined by 88 basis points to fall back to 5.16 per cent, thereby bringing a pause to the pressure on yields which saw them reach euro-era highs last week, coming perilously close to the 7 per cent level that had presaged the bailouts of Greece, Ireland and Portugal. Yields on Irish 10-year bonds fell yesterday, dipping below 10 per cent, for the first time since April, to 9.96 per cent.
It has been estimated that the ECB spent more than €10 billion buying bonds of peripheral countries yesterday, including those of Ireland and Portugal, although purchases were “heavily concentrated” in Italian bonds, according to Ciaran O’Hagan, head of European interest-rate strategy at Société Générale in Paris.
In the US, despite Friday’s downgrade from Standard Poor’s, US borrowing costs fell yesterday. As investors fled the stock markets, money poured into US treasuries, pushing yields down. Japanese finance minister Yoshihiko Noda said market trust in the dollar and US treasuries has not wavered. However, while the ECB’s intervention had the desired effect yesterday, it is seen by many in the market as simply a stop-gap until the European Financial Stability Facility (EFSF) finally gets the powers it needs.
Dermot O’Leary, chief economist with Goodbody Stockbrokers, said that to sustain yesterday’s level of yields, it would require “sustained action”, as investors may move to take advantage of high prices to offload their bond holdings. This sustained action may come in the form of the EFSF, but this is unlikely to receive parliamentary approval before the end of September. Moreover, given that the size of the €440 billion fund will now have to be substantially increased to more than €1 trillion, countries such as France and Germany may find it difficult to get parliamentary approval for the decision, thereby prolonging the uncertainty.
And even if this is approved, for some, fiscal consolidation is where the crisis is eventually going to lead Europe. This would likely lead to a further reduction in sovereignty for member states.
“There is an acceptance that if the euro is to survive, there will be a common issuance of bonds at a euro level,” Mr O’Leary said. “It’s one or the other – either disintegration or closer union.”
The Swiss franc and Japanese yen soared as investors sought out safe havens. The euro fell against the dollar, dropping back by 0.6 per cent to $1.4196. It slumped to a record low of 1.0640 against the Swiss franc and it lost 2 per cent against the yen. The dollar was also weak, falling by 0.6 per cent to 77.62 yen, and by 1.8 per cent to 0.7538 Swiss franc.
–(Additional reporting Reuters/Bloomberg)
