Markets wait to see if ECB will buy bonds to help eurozone

FRANKFURT, Aug 4, 2011 (AFP) - The European Central Bank meets on interest rates Thursday but the main focus is on whether it will resume buying government bonds to help tame a resurgent eurozone debt crisis.

"A revival of the ECB’s securities markets program (SMP) is the only real option that would prevent a liquidity crisis for Spain and Italy," Goldman Sachs economist Dirk Schumacher said.

Traders have sent the yields and risk premiums on Spanish and Italian bonds to record highs in recent days, threatening to spread the eurozone debt crisis to its third- and fourth-largest economies.

The renewed tensions reflect growing concern "about the systemic capacity of the euro area to respond to the evolving crisis," European Commission president Jose Manuel Barroso acknowledged on Wednesday.

The ECB is certain to keep its main lending rate at 1.50 percent after two rate hikes so far this year and while analysts want to know if it will be raised again in 2011, they are now wondering who will contain the debt crisis.

Those best placed to act quickly are the national central bankers sitting on the ECB's governing council.

"At least they can send a message to say that this cannot carry on and there will be measures taken," urged Angel de Molina Rodriguez at the Spanish brokerage Tressis.

Deutsche Bank senior economist Gilles Moec felt a "verbal intervention" was likely on Thursday, perhaps something along the lines of ECB governors stating that they are "ready to use any available instrument in our arsenal."

But he did not expect an announcement that the SMP's controversial bond purchases would resume immediately.

"The pain threshold beyond which the governing council would reactivate SMP is probably higher now than last summer," when the ECB stepped into the markets, Moec suggested.

RBS economist Nick Matthews said: "With the (eurozone) periphery crisis deepening, we expect the ECB to ultimately be forced to resume bond purchases before year-end."

The task of buying eurozone government debt to keep bond markets under control is set to be taken on by a eurozone crisis fund known as the European Financial Stability Facility.

Final details must still be worked out however and eurozone members must give their approval, a process that could take several months.

That measure is part of a broader eurozone plan that includes a a second rescue package for Greece and backstops for Ireland, Italy, Portugal and Spain and banks in those countries.

ECB bond purchases have been an effective way to stem panic or speculative selling of sovereign bonds that drives up the cost of borrowing for heavily indebted governments.

But the ECB suspended its purchases 18 weeks ago because they forced it to shoulder an increasing amount of risk that ECB president Jean-Claude Trichet insists should be borne by the governments themselves.

The ECB faces other problems as well, notably an economic situation that has deteriorated sharply since last month when Trichet hinted that the central bank might hike rates again to curb inflation now running at 2.5 percent, well above the target of just under 2.0 percent.

Recent data has shown too that previously robust core eurozone economies are slowing rapidly and many economists expect the ECB to delay a rate hike they had expected in October.

In London, the Bank of England is tipped to maintain its main interest rate at 0.50 percent due to weak economic growth. Earlier on Thursday, the Bank of Japan voted to keep its key rate unchanged between zero and 0.1 percent.

The BoJ also intervened in currency markets to tame the rising yen and said it would expand by 10 trillion yen a scheme to buy assets and boost liquidity to help safeguard the nation's post-quake recovery.

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