10th November 2011

F&C: Will the ECB come to the eurozone’s rescue?

The recent G20 conference in Cannes was intended to build on the measures agreed at the Eurozone summit the previous week to help provide a sustainable solution to the debt crisis. In the event the conference was hijacked by the unexpected announcement from President Papandreou of Greece calling for a national referendum over the bailout package for his beleaguered country. This unhelpful development exposed the flaws of the Grand Plan agreed by the Eurozone politicians and raised the stakes not only for Greece itself but for the European Currency Union that is now being played out in the Italian bond market.

Subsequently, both the Greek and Italian Prime Ministers have fallen victims of the crisis and with Italian bond yields rising to over 7% it is becoming clear that something has to give. The prospect of a bailout for Italy is a scenario that the Eurozone could not allow to happen because the current rescue mechanisms do not have the resources to accommodate such a large economy.

To prevent it happening and reverse the current contagion the only institution which can deliver a 'solution' is the ECB. The central bank has been actively buying Italian bonds in a vain effort to restore stability (see chart below) but with yields now at a level that effectively prohibits Italy from financing its debt, the ECB will have to make the decision as to whether it is prepared to be a lender of last resort. This means conducting unsterilized purchases of assets in the market without limit, otherwise known as quantitative easing (QE).

Click here to read in full.

Investments