Draghi Pushes to Unfreeze Credit as Bond-Buy Talk Damped

By Gabi Thesing and Simone Meier - Dec 8, 2011 10:22 PM GMT+0700

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Dec. 8 (Bloomberg) -- Mickey Levy, chief economist at Bank of America Corp., discusses the European Central Bank's decision to cut interest rates and the prospects for the European Union leaders' summit in Brussels. Levy, speaking with Betty Liu on Bloomberg Television's "In the Loop," also talks about Federal Reserve Chairman Ben S. Bernanke's job performance and the outlook for the U.S. economy. (Source: Bloomberg)

European Central Bank President Mario Draghi cut interest rates and offered banks unlimited cash for three years while steering clear of any signal the ECB will buy more bonds to stem the region’s debt crisis.

The Frankfurt-based ECB today reduced its benchmark rate by a quarter percentage point to 1 percent, matching a record low. It pledged for the first time to offer banks unlimited cash for three years and loosened the collateral rules it imposes when lending to financial institutions.

The measures “should ensure enhanced access of the banking sector to liquidity,” Draghi told reporters in Frankfurt today after chairing a meeting of the ECB’s Governing Council.

Hours before European leaders meet in Brussels, Draghi kept the onus on them to solve the two-year debt crisis by repeating his call for a “fiscal compact” and denying he had hinted the ECB would automatically support such an initiative with more bond purchases.

Draghi’s comments roiled markets, with stocks and the euro rising on the bank-lending measures before falling after he damped speculation that more bond purchases are imminent. The euro sank more than 1 percent and traded at $1.3336 at 3:41 p.m. in Frankfurt.

“All euro-area governments urgently need to do their utmost” to deliver fiscal sustainability, he said. Draghi, who said on Dec. 1 that “other elements” could follow a push toward a fiscal union, said he was “kind of surprised” that the remarks were viewed as a suggestion the ECB would intensify bond purchases.

Stocks Rally

“The headline event today was that Draghi made it absolutely and explicitly clear that there would be no ECB bond buying bazooka,” said James Nixon, chief European economist at Societe Generale SA in London. “They’ll stay in the market but will only buy small amounts. It’s governments who’ll have to do the heavy lifting.”

The Stoxx Europe 600 Index declined 1.18 percent to 238.61 at 4:20 p.m. in Frankfurt after earlier rallying as much as 1 percent. Italian and Spanish 10-year bond yields rose more than 20 basis points, climbing to 6.3 percent and 5.7 percent, respectively. The euro fell 0.7 percent today to $1.3314.

Speaking at the same time in the French port of Marseille, German Chancellor Angela Merkel played down investor hopes by saying there will be no “big-bang” solution for Europe’s woes at the summit, which starts at 7:30 p.m. in Brussels. The meeting will be “one stop” along the way to ending them, she said.

Lending Jolt

With the ECB’s focus on jolting banks into lending, Draghi made it easier for them to borrow cash from the central bank. Credit claims such as bank loans will become eligible as collateral and he also reduced the rating threshold on asset- backed securities.

The ECB also cut in half banks’ reserve ratios to 1 percent and will stop fine-tuning operations at the end of each reserve maintenance period. The 36-month loans will be conducted at a fixed rate with full allotment, Draghi said.

Draghi spoke as EU leaders meet to devise a fifth “comprehensive” solution in 19 months for a crisis which has left Germany and France, the euro’s linchpins, facing the threat of losing their AAA rating from Standard & Poor’s.

Merkel and French President Nicolas Sarkozy are proposing to amend European treaties to tighten controls on budgets. Germany nevertheless rejects proposals to combine the region’s current and permanent rescue funds, a German government official told reporters in Berlin yesterday on condition of anonymity.

-- With assistance from Jeff Black and Rainer Buergin in Frankfurt and Kristian Siedenburg in Vienna. Editors: John Fraher, Matthew Brockett

To contact the reporters on this story: Gabi Thesing in Frankfurt at gthesing@bloomberg.net; Simone Meier in Frankfurt at smeier@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net