Central bank action eases Europe's crisis

The European Central Bank pulled Italy and Spain back from immediate financial disaster on Monday, driving down the countries' dangerously high interest rates by buying up billions of euros worth of their bonds on the open market.

But the rescue mission does not address the roots of Europe's 21-month-old financial crisis - such as how to stop countries from building up the towering debts that led Greece, Ireland and Portugal to take bailouts after bond markets wouldn't lend them more money at affordable rates.

Europe's central bank has long resisted shifting from its traditional job of controlling inflation to a lead role combating the crisis.

It relented last week and revived a dormant programme that had earlier made just under €80 billion (US$113 billion) in Greek, Irish and Portuguese bonds. The purchases drove up their face value and reduced the interest rates to be faced on new bonds, which soared as a result of investor fears about the countries high debt and slow growth.

Italy and Spain are so much larger that the euro zone would find it virtually impossible to bail them out if they default. Supporting their debt could be a massive effort. Traders said the bank spent around €2 billion (US$2.84 billion) Monday, while analysts at Royal Bank of Scotland see the bank racking up €600 billion per year in bonds at a rate of euro2.5 billion a day.

Eventually, the bank could wind up with €850 billion (US$1.2 trillion) of Spanish and Italian debt, the analysts added.

The ECB has been "sterilising" its bond purchases by withdrawing funds from the financial system so that the overall amount of money in circulation remains the same, warding off any inflationary effects.

- AP