August 17, 2012

Merkel Backs Conditions for ECB Bond Buying

Finland, meanwhile, readies plans for euro breakup

Chancellor Angela Merkel of Germany, back from vacation, voiced her approval for the need for conditions attached to any bond purchases by the European Central Bank (ECB). While the news seemed to cheer markets somewhat, Finland said that its officials have been preparing for a breakup of the eurozone and that European officials should do likewise.

Bloomberg reported Friday that Merkel backed ECB President Mario Draghi’s twofold plan. The first requirement, he had said on Aug. 2, was that tough conditions would be imposed on any country whose bonds the ECB would purchase. The other was that the country would have to buy debt throughEurope’s bailout funds before the ECB would act.

Chancellor Angela Merkel of Germany (Photo: AP)Merkel (left) reiterated her support for taking strong action to save the euro, saying in a Thursday interview in Canada that while “obviously time is pressing” on quelling the crisis, “on many of these issues we feel we’re on the right track.” She added that eurozone policy makers “feel committed to do everything we can to maintain the common currency.”

With regard to Draghi’s plan to buy bonds from countries needing assistance, she said that decisions made by the ECB lately “have made it clear that the European Central Bank is counting on political action in the form of conditionality as the precondition for a positive development of the euro.”

A lot could ride on that bond purchase plan. Steven Major, head of fixed income research at HSBC Holdings in London, said that while the notion of the central bank intervening could rattle investors, it could be very effective in driving down the crippling yields currently being paid by Spain.

He was quoted saying, “Two percent would be reasonable for a two-year Spanish bond if the ECB decides it should go there. It’s all about getting those front-end yields stapled to the floor.”

In the report, he said that while the possibility of the ECB stepping in to take a hand in the bond market is “serious,” it could have a good outcome. He was quoted saying, “One of the big trades for the rest of this year will be the short-dated periphery. People are frightened to hear this kind of thing but the chances are that Spanish bond yields will be nearer to 2 than 6% in the coming months based on the fact that the ECB is asked to intervene.”

Not everyone is optimistic, however, and Reuters reported that Finland is definitely looking at a breakup of the eurozone as a strong likelihood. It cited a Daily Telegraph interview withFinland's foreign minister, Erkki Tuomioja, in which he said that Finnish officials have gotten ready for a dissolution of the joint currency with an "operational plan for any eventuality."

He was quoted saying, "There are no rules on how to leave the euro, but it is only a matter of time. Either the south or the north will break away because this currency straitjacket is causing misery for millions and destroyingEurope's future."

To this gloomy prognostication he added, "It is a total catastrophe. We are going to run out of money the way we are going. But nobody inEuropewants to be first to get out of the euro and take all the blame."

That said, he added that the European Union (EU) could actually emerge from a breakup of the common currency as a stronger entity. "It is not something that anybody is advocating inFinland, let alone the government,” he said in the report. “But we have to be prepared. The breakup of the euro does not mean the end of the European Union. It could make the EU function better."

The country could, of course, play an active role in such a breakup, since it has veto power over any new bailouts and has already insisted that it be granted collateral in exchange for its contributions to rescue funds for bothGreeceandSpain.

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