Europe May Buy Bonds as Merkel, Hollande Set to Defend Euro

Europe may move toward a new round of joint bond buying to ease borrowing costs in Spain and Italy as German Chancellor Angela Merkel and French President Francois Hollande pledged to do everything to protect the euro.

Germany and France are “bound by the deepest duty” to keep the 17-nation currency bloc intact, Merkel and Hollande said in a joint statement after they spoke by phone today. The two sought “quick” implementation of resolutions made at a June 28-29 European Union summit, they said.

Merkel and Hollande, up against speculation the euro area is headed for a breakup, helped extend a two-day advance in the common currency, Spanish debt and stocks worldwide. They echoed European Central Bank President Mario Draghi’s vow yesterday to defend the euro as he urged investors not to bet against him.

The ECB is preparing a plan to buy bonds in the secondary market in the coming weeks to be followed by purchases in the primary market by government-financed bailout funds, newspaper Le Monde reported today.

“I would expect the ECB will go in with big purchases, showing the market that it’s wrong,” said Julian Callow, chief European economist at Barclays Plc in London. Purchases won’t be so large that the central bank is “becoming the market,” Callow said.

Draghi’s Pledge

Markets gained on speculation the ECB will act to lower Spanish borrowing costs after yields on the nation’s bonds rose to levels that prompted bailouts for Greece, Portugal and Ireland. In Draghi’s remarks in London, he said the ECB “is ready to do whatever it takes to preserve the euro,” adding: “believe me, it will be enough.”

The Standard & Poor’s 500 Index increased 1.3 percent to 1,377.15 at 12:35 p.m. in New York. The Stoxx Europe 600 Index rose 1.3 percent, and the euro appreciated 0.7 percent to $1.2369. Italy’s 10-year bond yield declined 10 basis points to 5.94 percent and Spain’s retreated 18 basis points to 6.70 percent.

Underscoring Europe’s stuttering crisis management, Germany’s central bank qualified Draghi’s defense of the euro. Bond purchases by the ECB blur the line between monetary and fiscal policy and may not be the most efficient way to tame the debt crisis, a spokesman for the Frankfurt-based Bundesbank said.

Bundesbank Pushback

“We did not have to wait long for the pushback,” Ken Wattret, chief market economist for the euro region at BNP Paribas SA, said today in an e-mailed report. “This is clearly not helpful from the perspective of euro-region central bankers presenting a united front and sustaining the improvement in sovereign markets in recent days. Still, the pushback, in our judgment, does not look so vociferous.”

The ECB holds about 211 billion euros ($261 billion) of bonds through its secondary market program, which it suspended earlier this year.

Policy makers have been struggling amid concerns that a 100 billion-euro aid package for Spanish banks won’t be enough to contain market turmoil as speculation of a Greek exit from the euro zone mounts. Plans to enable bond buying by a bailout fund, announced after the June summit in Brussels, have been held up by a legal challenge in Germany.

Hollande and Merkel have among their options the European Financial Stability Facility, a program that has helped prop up Greece, Portugal, and Ireland. The EFSF, which has about 240 billion euros to commit, has the capacity to buy bonds, German Finance Ministry spokeswoman Marianne Kothe said at a press conference in Berlin.

“The problem is that the EFSF’s resources are limited, unlike the ECB’s balance sheet,” said Thomas Costerg, an economist at Standard Chartered in London. “The best would have to have combined action by the ECB and EFSF, but I think we’re still not there yet.”

To contact the reporters on this story: Andrew Frye in Rome at afrye@bloomberg.net; Brian Parkin at bparkin@bloomberg.net.

To contact the editors responsible for this story: James Hertling at jhertling@bloomberg.net;

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