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Europe gropes for crisis fix, bond buys pushed

DON MELVIN

Published: Wednesday, June 20 2012 9:15 a.m. MDT

BRUSSELS — Europe's leaders are grasping for ideas to halt their government debt crisis ahead of a series of top-level meetings over the next 10 days. The latest: Using their emergency government bailout funds to buy up government bonds on the open market.

The last two and a half years of Europe's government debt crisis have seen Greece, Ireland and Portugal seek multibillion-euro bailouts after high borrowing costs made it impossible for them to finance their debts on the international bond markets. Now markets-watchers fear Spain and Italy may soon be joining the bailout club as their borrowing costs spiral ever higher.

The leaders of the 17 countries that use the euro have been under global pressure to find a substantial solution to the debt crisis rather than piecemeal measures that provide only temporary relief. Late last year, U.K. Prime Minister David Cameron urged euro area leaders to use a "big bazooka" on the problem.

One more solution moved into the foreground late Tuesday night on the sidelines of the G20 summit of global economic powers in Mexico. Italy's Prime Minister Mario Monti urged looking at using Europe's €500 billion ($635 billion) emergency bailout funds — the European Financial Stability Facility and the European Stability Mechanism — to buy government bonds on the open market.

The emergency bond purchases are the latest idea leaders appear to be clutching at after a bailout of Spanish banks and the hoped for victory of pro-bailout politicians in Greece did not halt market turmoil.

The EFSF and ESM both have the power to buy government bonds. They can do so directly from governments at auction, thus loaning money directly to the government, or on the secondary market from other investors that hold them. In both cases, the idea would be to drive up the price of the bonds and bring the borrowing cost, or yield, down. Price and yield move in opposite directions.

But there are obstacles. The combined capacity of the two bailout funds will be €500 billion after the ESM is due to come into effect in July. And €100 billion of that has already been committed to help Spain bail out its banks, which have suffered heavy losses from making real estate loans that aren't being repaid. Analysts fear the funds wouldn't have enough money to cope effectively with €2.5 trillion in combined Italian and Spanish debt

"This might not be enough to have a material and lasting downward impact on yields at a time when concerns over those countries' economic and fiscal prospects are still growing," Capital Economics' European chief economist Jonathan Loynes wrote in a note. Without more money, "a bazooka with peas is just a peashooter."

European officials gave little indication the bond-purchase idea would play a major role ahead of the meetings.

European Commission spokesman Amadeu Altafaj Tardio said he was not aware of any plan to have the EFSF buy the bonds of troubled countries, saying that in any event a country would have to make a request for such action to be triggered. But he acknowledged that the idea was being discussed because it was natural that officials should think about what they might do to relieve tension in the markets.

He cautioned that such action could only be a stopgap. "If I could just put this into everyday language, we're talking here about financial paracetamols," he said, referring to European name for an over-the-counter pain reliever.

"So it may actually alleviate the tension, the pain, the unease, for a while. But it does not address the causes which are at the root of the structural problems that you find in the Italian economy or the Spanish economy or any other economy for that matter.

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