Merkel Returns to Crisis as Bond Buying Remains in Focus

German Chancellor Angela Merkel returns to the front line of the European debt crisis this week as the bloc’s leaders squabble over measures including bond purchases to relieve concerns the single currency may fragment…

Merkel ends her summer vacation and travels to Canada Aug. 15-16 for talks with Prime Minister Stephen Harper as a spiraling euro crisis threatens to constrain the global economy. With the region’s leaders awaiting a German high court decision on bailout funding next month, they’re struggling to smooth divisions over a European Central Bank plan to buy the bonds of indebted nations.

“It makes no sense for the ECB to start financing” Spain and Italy, ECB Governing Council member Luc Coene said in an interview with newspapers De Tijd and L’Echo published on Aug. 11. “It would only lead to the ECB taking on the whole public debt of Spain and Italy onto its balance sheet.”
ECB President Mario Draghi suggested earlier this month the central bank could purchase sovereign debt alongside euro-area bailout funds. While the plan offered Europe an initial respite from the turmoil, Spanish and Italian yields climbed last week on concern that a debt-purchasing program won’t be sufficient to curb the crisis. Concern over the euro may compound flagging global growth following reports last week that China’s exports and industrial production slowed.
Spanish two-year note yields last week posted a first weekly gain since the five days ended July 20, while the Italian two-year rate also climbed. The euro slid from a monthly high against the U.S. dollar of $1.2444 on Aug. 6, closing the week at $1.2289.

Divided ECB
The ECB said last week that it would undertake bond purchases only if troubled nations promise measures to improve their economic health. Coene, who also heads Belgium’s central bank, told the two Belgian newspapers that ECB officials are divided on what conditions should be agreed.
The policy maker said the central bank’s experience a year ago demonstrates why the ECB is reluctant to step in.
“We haven’t forgotten what happened in August of last year: We bought Italian bonds and right after that the Italian government reneged on its pledges,” Coene was quoted as saying. “The conclusion is clear: When you take away the market pressure, you take away the pressure on politicians to act.”
ECB purchases won’t return investor confidence in Spain and Italy, he said, attributing the rise in bond yields to a lack of trust in those countries to repair their economies.
Italian Economy
“Every board member, including the Spanish and Italian ones, knows that our actions will have a short-lived effect” and that market turmoil “will stop only when there’s no more Spanish and Italian bonds in the market,” Coene said.
Italian bond spreads need to retreat by the end of the year to avoid “strong” contagion to the economy, Fabrizio Viola, chief executive officer of Italy’s Banca Monte dei Paschi di Siena SpA, La Repubblica reported on Aug. 11. He urged the ECB and the region’s bailout funds to buy sovereign debt on the primary and secondary markets, the newspaper said.
Bank of England Governor Mervyn King repeated his gloomy outlook on the euro-area debt crisis. Writing in yesterday’s Mail on Sunday newspaper, he said rebalancing the British economy would be much easier if the rest of the world was growing normally.

‘No Obvious End’
“Even the rapidly expanding emerging-market economies are slowing, and the problems of the euro area continue with no obvious end in sight,” he wrote. The comments come days after the Bank of England cut its U.K. growth forecasts and said the outlook is “unusually uncertain.”

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