Eurozone braces for European Central Bank liquidity moves
FRANKFURT: Financial markets were in a high state of alert on Thursday, awaiting a European Central Bank meeting expected by many to signal action to tame the eurozone debt crisis now threatening Spain.
Economists said many in the markets think the ECB could now maintain or even boost cheap funding for banks rather than continue winding down in a key stimulus measure, as it expected to do earlier. Rumours said "the ECB will announce some big and bold moves on its government bond purchase programme," UniCredit fixed income strategist Luca Cazzulani told AFP.
But he and others did not expect the traditionally cautious central bank to roil an already tense situation further.
A growing belief that the ECB will signal more help for banks, rather than the beginning of a winding down, were a key factor in an easing of market pressure on Spain on Wednesday.
This was because it would mean a reduction of risk for investors who have been alarmed by a decision by eurozone finance ministers to increase their risks.
"We expect no 'shock and awe' announcement" on additional purchases of eurozone sovereign bonds, Cazzulani said. While the ECB's main interest rate was expected to remain at a record low of 1.0 percent, president Jean-Claude Trichet could suggest that the bank would make more bond purchases through its Securities Markets Programme, he noted.
"A lot of investors have progressively turned their attention over the past few days to the ECB as the potential actor that could put the fire out," the bond strategist said.
Under a controversial programme that has divided the bank's governing council, the ECB has bought nearly 70 billion euros (90 billion dollars) worth of government bonds since May, a modest sum compared to moves by the US Federal Reserve and the Bank of England. Some in the markets have speculated that the ECB could now pull out the stops to keep a festering debt crisis from spreading to major economies like Italy and Spain.
Such a move would present ECB policymakers with a major dilemma however, Cazzulani said. "The problem with buying large amounts of debt is that it would become very difficult to sterilise them," he said, as the ECB currently does by taking an equivalent sum in short-term deposits from commercial banks as an offset. "If they don?t sterilise it it will be politically unacceptable for some EU countries" which fear inflation could take hold in the 16-nation eurozone. Buying government debt without offsetting the operations amounts to creating money and as the money supply increases so does the risk of inflation, which would raise hackles in eurozone heavyweight Germany. -Afp