Tuesday, February 1, 2011

ECB halts bond purchases: Why?

The European Central Bank bought no government bonds for the first time since October last week, reflecting growing market confidence that policymakers are
getting on top of the euro zone debt crisis.

Analysts said the ECB's move was a reflection of the better
debt market conditions and its hopes that Europe's rescue fund,
the European Financial Stability Fund, would take over its
uneasy role of debt buyer of last resort.

"It further reinforces Trichet statements that the ECB is
present in the market commensurate to the strains they see. The
ECB has clearly looked at the situation and decided that the
situation is not as pronounced as it was last month," said RBS
economist Nick Matthews.

"It is also occurring against a backdrop where the ECB
appears to be supporting an enhanced role for the EFSF which
could see the EFSF becoming the vehicle to buy bonds rather than
the ECB."

Here is my take on what may actually be happening. There has been a tug-of-war between the ECB and Germany over the size and scope of the EFSF. The ECB does not want to become the de facto bailout fund for the peripheral eurozone members.

It may be that this decision to stop buying government bonds is political and not financial. This is the best way for the ECB to pressure the European Commission to make the EFSF more credible, in that hope that markets will calm down, or in the hope that the bonds that the ECB has bought don’t go bad.

We will see if I am correct pretty quickly.

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