Bloomberg News

Trichet Says ECB to Buy Covered Bonds, Offer Year-Long Loans

October 06, 2011

(Updates with Trichet comments from fifth paragraph. Click EXT4 <GO> for more on the European debt crisis.)

Oct. 6 (Bloomberg) -- European Central Bank President Jean- Claude Trichet, fronting a policy decision for the final time, said the ECB will resume covered-bond purchases and reintroduce year-long loans for banks as the sovereign debt crisis threatens to lock money markets.

The ECB will spend 40 billion euros ($53 billion) on covered bonds starting next month and will offer banks two additional unlimited loans of 12 and 13-month durations, Trichet said at a press conference in Berlin today after policy makers left the benchmark interest rate at 1.5 percent. He also said the ECB will continue to lend banks as much money as they need in its regular refinancing operations at least until July 2012.

The ECB is resisting calls to reverse its two rate increases this year even as the debt crisis threatens to tip Europe back into recession, turning instead to tools it has previously used in an effort to calm financial markets. The Bank of England today unexpectedly expanded its bond-purchase program to 275 billion pounds ($421 billion) from 200 billion pounds after keeping its key rate at a record low of 0.5 percent.

The euro fell after the ECB’s rate decision and traded at $1.3414 at 4:39 p.m. in Berlin. Two-year German note yields were 15 basis points higher at 0.645 percent.

‘Pop Star’

With European leaders still hammering out a new plan to stop the region’s debt crisis, Trichet’s final decisions may be among the most critical for the future of the euro -- the currency he has championed as a symbol of European unity. Trichet will be succeeded by Italy’s Mario Draghi at the ECB’s helm when his eight-year term ends on Oct. 31.

“Central bankers are supposed to be serious and dull and it was always unlikely that Trichet would turn into a pop star at his last presser,” said Christoph Rieger, head of fixed income strategy at Commerzbank AG in Frankfurt. “The problem the ECB has is that the more it does, the less the governments will do. It will cut rates, but not before December.”

Trichet said inflation, which accelerated to 3 percent last month, is likely to remain above the ECB’s 2 percent limit for the rest of the year before slowing in 2012. At the same time, “ongoing tensions in financial markets and unfavorable effects on financing conditions are likely to dampen the pace of economic growth in the euro area in the second half of this year,” he said.

Rates ‘Surprise’

The ECB in September cut its growth forecasts to 1.6 percent from 1.9 percent for 2011 and to 1.3 percent from 1.7 percent for 2012. Euro-area service and manufacturing industries last month contracted for the first time in more than two years.

“The ECB’s decision to focus on inflation instead of reversing rate hikes made earlier this year is a surprise, as a rate cut appears to have been warranted,” said Chris Williamson, chief economist at Markit in London. It’s “likely that ECB rate cuts have merely been postponed.”

Trichet said while there are “intensified downside risks” to the economic outlook, rates “are low.”

“There has been a discussion on the pros and cons of decreasing rates,” Trichet said. “We have decided by consensus to maintain rates.”

Trichet spoke as German Chancellor Angela Merkel held talks with International Monetary Fund chief Christine Lagarde and other officials in the German capital. Trichet is due to join the discussions later.

Under Pressure

With Greece on the brink of default and investors growing more concerned about the losses European banks may incur in the event of a sovereign insolvency, the ECB was under pressure to increase stimulus. It has already reintroduced an unlimited six- month loan and said last month it will coordinate with the Federal Reserve to provide euro-area banks with dollars.

It will offer a 12-month loan this month and a 13-month loan in December, Trichet said. The ECB last offered unlimited year-long loans at the end of 2009 as the global financial crisis made banks wary of lending to each other.

The ECB also purchased 60 billion euros of covered bonds in a one-year program that expired in June last year and was aimed at freeing up banks’ balance sheets and encouraging lending during the region’s worst recession since World War II.

The 2.5 trillion-euro market for covered bonds -- assets backed by mortgages or public-sector loans -- underpins much of Europe’s real estate lending, which almost ground to a halt in the wake of Lehman Brothers Holdings Inc.’s collapse in September 2008.

Close Call

“The new purchases will have the capacity to be conducted in the primary and secondary markets and will be carried out by means of direct purchases,” Trichet said. They will start in November and are expected to be fully implemented by the end of October 2012, he said.

“Banks now have certainty that plenty of liquidity will available for the banking sector until mid-2012,” said Jens Sondergaard, a senior economist at Nomura Plc in London. “It’s a close call whether they will cut policy rates next time and I think it will depend on the data flow between now and then as well how the sovereign debt crisis plays out.”

--With assistance from Jeff Black and Simone Meier in Frankfurt, Christian Vits in Berlin and Gabi Thesing in London. Editors: John Fraher

To contact the reporters on this story: Matthew Brockett in Frankfurt at mbrockett1@bloomberg.net; Jana Randow in Frankfurt at jrandow@bloomberg.net

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


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