Promissory note remarks spark tension

There was a slight nervousness in bond markets yesterday after the ultra-conservative Bundesbank president suggested the promissory note deal may breach ECB rules.

This was followed by ECB president Mario Draghi repeating his remarks of last week that they would examine further the deal. He is attending the G7 finance ministers' meeting in Moscow which is also being attended by Finance Minister Michael Noonan representing the EU.

German 10-year bonds rose for a second day after the remarks by Jens Weidmann who is a staunch defender of the ECB not being engaged in anything that could be seen as monetary financing.

Analysts suggested that the ECB could force the Irish Central Bank to shorten the period of time they hold the €25bn of bonds.

The current agreement states that the minimum sale of the bonds is: no sale in 2013; €0.5bn to end 2014; €0.5bn per annum 2015-2018; €1bn per annum 2019-2023; €2bn per year thereafter with the total being sold by 2032.

Mr Noonan told the Dáil earlier this week that the bonds would be placed in the Central Bank’s trading portfolio and sold as soon as possible, provided conditions of financial stability permit.

“The disposal strategy will maintain full compliance with the treaty prohibition on monetary financing”, he said.

Mr Weidmann told Bloomberg that Ireland’s promissory note transaction came dangerously close to contravening a ban on the monetary financing of governments.

The transaction “has a fiscal nature, as stated by the Irish Government, that’s clear enough,” Mr Weidmann, who heads Germany’s Bundesbank, said in an interview on Feb 13. The ECB will re-examine the issue and “has to make sure that its actions are in conformity with its rules and statutes,” he said. “I’m very concerned about monetary policy being too closely intertwined with fiscal policy and crossing the line to monetary financing.”

Ireland’s asset swap via the country’s central bank stretches out the cost of rescuing the former Anglo Irish Bank, easing our borrowing needs over the next decade by €20bn.

The ECB, which so far has “taken note” of the transaction, has stressed it must not contravene Article 123 of the European Union treaty that outlaws central bank financing of governments. The asset swap has “potential repercussions on net financial assets and has to be assessed against the background of Article 123,” Mr Weidmann said.

“The transaction in Ireland demonstrates how difficult it is for monetary policy to free itself from the embrace of fiscal policy once you are engaged.”


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