ECB to Buy Sovereign Bonds in New Program to Save Euro

According to European Central Bank Chief Mario Draghi, the euro is irreversible. The ECB has created a new program that includes "unlimited" bond buying program called the Monetary Outright Transaction that focuses on the secondary sovereign bond market.

Published: Thursday, 6 Sep 2012

European Central Bank Chief Mario Draghi said the "euro is irreversible" as he announced an "unlimited" new bond-buying program at a press conference in Frankfurt, after the central bank decided to keep its benchmark interest rate on hold.

The program called "Monetary Outright Transactions" or MOT would focus on the secondary sovereign bond market. Draghi said it was necessary to deal with "severe distortions" in the bond markets.

Bond yields have risen in recent months for Spain and Italy, sparking worries the debt crisis was spreading.

Draghi confirmed reports that the ECB would only buy bonds with maturities of up to three years; the purchases would be sterilized, i.e. the central bank would mop up the extra liquidity that was created; and the ECB would not have seniority over private creditors.

The ECB chief said troubled euro zone countries could choose either a full bailout or a precautionary program. He said ECB bond buying would include strict conditionality and would happen only in concert with the European Financial Stability Facility (EFSF) and the new euro zone bailout fund, the European Stability Mechanism (ESM).

He also said the involvement of the IMF would be sought for the design and monitoring of any aid program.

The euro [ Loading... () ] fell below 1.26 versus the dollar, with some analysts saying the bond buying program was already priced in by the market.

"It doesn't look like he's done enough to bring back confidence at this juncture. It's not bad, but it's expected," Edward Smyth, Investment Manager at JN Financial said.


Draghi said the decision of the Governing Council wasn't unanimous and that there was one dissenter, though he declined to name the person.

Meanwhile, the head of the Eurogroup Jean-Claude Juncker said the meeting of the ECB's Governing Council went well and there was "no trouble."

The head of Germany's Bundesbank, Jens Weidmann, has strongly criticized bond buying plans, saying they encroach on the taboo against central bank funding of state budgets. (Read More: Weidmann Resignation Rumors Symbolize Euro Zone Split)

Draghi defended the bond buying in the face of strong opposition from Germany as being within the ECB's mandate of safeguarding the euro.

"Let me repeat what I said last month. We are strictly within our mandate to maintain price stability over the medium term," Draghi said.

At the press conference, the ECB also announced it was cutting its 2012 growth forecasts for the euro zone to -0.6 percent to -0.2 percent, lower than its forecast in June of -0.5 percent to 0.3 percent. The gloomier outlook also pressured the euro.

Earlier, the ECB Governing Council kept interest rates on hold, leaving its main rate unchanged at 0.75 percent.

"A rate cut would have been understandable given the weak economic data, but clearly the ECB wants to address the main risk first, the convertibility risk, which the ECB will try to attack with a new bond purchase program, if governments play along," said Stefan Schilbe, chief economist at HSBC Trinkaus.

Spain in Focus

With the ECB decision out of the way, attention is now likely to turn to Spain, Europe's fourth-largest economy, which has seen its borrowing costs rise due to a deepening recession and a crisis in its banking sector.

After the ECB decision, the Spanish Prime Minister Mariano Rajoy said there was no announcement yet on seeking aid and he had not read Draghi's full announcement. (Read More: Spanish Pull Out Cash and Leave Country)

Rajoy met German Chancellor Angela Merkel on Thursday. According to newspaper reports, Spain was seeking a bailout without extra conditions being attached to the aid.

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