European Central Bank buys €14.3 billion in bonds

FRANKFURT, Germany: The European Central Bank spent 14.3 billion ($20.6 billion) last week buying government bonds to protect large economies like Spain and Italy from the debt crisis, but market concerns persisted about how long the emergency purchases would contain market turmoil.

The amount of bond purchases disclosed on Monday was short of the previous week's figure of 22 billion but close to market expectations.

ECB buying of Italian and Spanish bonds on financial markets has driven down borrowing rates that were threatening those two countries with financial ruin. European officials have agreed to give the eurozone's rescue fund the power to take over the purchases - but national parliaments will not give their approval for that until this fall.

That has left the central bank with the main burden of fighting off market turmoil caused by fears that several of the 17 countries that use the euro have taken on more debt than they can repay.

Market worries are compounded by concerns that any government default could damage Europe's already-shaky banks, which hold large amounts of government bonds.

Last week's purchases ran the bank's total spent in supporting shaky eurozone government bonds to 110.5 billion since the program was launched in May, 2010. So far the purchases average 3.6 billion a day; analysts at Royal Bank of Scotland estimated that a rate of 2.5 billion a day would leave the ECB spending some 600 billion a year.

RBS senior European economist Nick Mathews cautioned that any sign the central bank is only intervening on an interim basis "will give the market a sentiment that there is a finite limit on purchases."

In that case markets could challenge the ECB's ability to keep yields down. Mathews thinks that the ECB and the eurozone rescue fund may eventually have to purchase close to half of traded Italian and Spanish debt, or around 850 billion ($1.2 trillion.)

The ECB has said it expects to hand off the bond purchases when the rescue fund is granted the powers, although bank head Jean-Claude Trichet has added that the bank does not "pre-commit" to any course of action.

Market fears have fed on the fact that the rescue fund's funding limit is set by eurozone governments and what they are willing to contribute in guarantees, while the central bank's purchase powers are in theory unlimited thanks to its powers to create new money. That is a practice the ECB has so far avoided, although the U.S. Federal Reserve and Bank of England have both done it as part of their measures against the financial crisis and recession.

Germany and others have said that the bailout fund does not need more lending power beyond the 440 billion.

Eurozone leaders agreed on July 21 to expand the powers of their 440 billion bailout fund to let it purchase government bonds on the secondary market - that is, from other bond investors, not directly loaning money to the governments. They also gave it the power to loan money quickly to countries in trouble and to help recapitalize banks.

Those powers can be used to support financially troubled governments and prevent bond market turmoil while governments use the respite to clean up their finances. The bond purchases help by pushing up bond prices, which move in the opposite direction from yields.

During the delay, market fears about potential defaults spread increasingly to Italy and Spain, the eurozone's third and fourth largest economies. They are considered too large to be bailed out, even by the enhanced rescue fund.

In response, the ECB decided to re-start bond purchases at an emergency meeting Aug. 7 and began them the next day, driving yields down to under 5 percent for both countries and so far keeping them down. The ECB does not disclose which countries' bonds it bought, just the total amount.

Those yields reflect the costs the countries would face if they turned to the bond market for new borrowing. Their yields had previously been over 6 percent, heading toward the level that forced the eurozone to rescue Greece, Portugal and Ireland after they faced rates so high they would have ruined their finances.

The central bank was left as the eurozone's backstop after German Chancellor Angela Merkel and French President Nicolas Sarkozy said they opposed eurobonds, collectively-issued debt seen by some as the answer to the crisis. Skeptics say the current EU treaty forbids them and that they would encourage overborrowing by less disciplined countries riding for free on the creditworthiness of the more careful ones.

On Sunday Merkel repeated her opposition.

On Monday, the European Central Bank said it would soak up an amount roughly equal to the bond purchases by taking short-term deposits from banks in order to avoid increasing the supply of money in the economy, which can cause inflation. - AP