Financial markets steadied on Friday after the European Central Bank said it was continuing to buy euro zone government bonds to counter a destabilising rise in peripheral countries' borrowing costs.
ECB President Jean-Claude Trichet insisted on French radio RTL that "there is no crisis of the euro as a currency" and said he did not think austerity measures to reduce swollen public deficits would drive the region back into recession.
Bond market traders said the ECB bought several relatively small chunks of Portuguese and Irish bonds on Thursday, bringing down the risk premium on all peripheral countries' bonds over safe-haven German 10-year Bunds.
But there was no sign of the "shock and awe" scale of purchases that some analysts said it would take to halt mounting pressure on euro zone sovereigns that is squeezing Portugal and Spain after forcing Greece and Ireland to seek bailouts.
"The ECB really are the only buyer out there and there's certainly some people looking to get out on the client side," one trader said on Friday.
Spanish, Portuguese and Irish bond yields fell slightly in early trade and the cost of insuring peripheral euro zone debt against default declined marginally.
But whether the ECB's show of deterrence and Trichet's hints this week of possible firmer action are enough to stop market wildfire spreading across the euro zone remains uncertain.
The ECB chief put the onus for fire-fighting back on governments on Friday, suggesting they may need to increase the euro zone's financial safety net.
"It is extremely important that what is being done by governments, whether it is their national fiscal policies or structural reform policy, whether it is the collegual collective action that we might have including through the stabilisation fund (…) is commensurate to the dimension of the challenges," he told the Euro American Press Association in Paris.
The fragility of European governments' efforts to stem the debt crisis shaking the 16-nation single currency area was underlined when credit ratings agency Standard & Poor's said it may cut Greece's BB+ rating in three months' time.
S&P CRITICISES EU PLAN
S&P singled out German-driven EU plans to make private bondholders share the burden of any future default by a euro zone sovereign after 2013 as one reason for its decision.
"We believe that the multilateral political prerogative to trigger private debt restructuring could be subject to political rather than objective financial considerations," S&P said.
A statement by EU finance ministers that future rescue loans by European governments would have seniority over all other creditors except the IMF reduced the prospects of private bondholders being repaid in full, it said.
Trichet, who has voiced concern about making private bondholders share losses in any future default, said on Friday that EU governments must state clearly they will not seek "haircuts" and debt restructuring as a condition for giving aid.
Spanish Economy Minister Elena Salgado said her country, which has rushed out new privatisation plans to pacify markets, was definitely not next in line for outside assistance.
She also told BBC radio that the European Union could not have a common currency without a common economic policy and stronger joint economic governance.
Spain has been at odds with EU paymaster Germany over the need for more fiscal "solidarity" in the euro zone.
German Finance Minister Wolfgang Schaeuble was quoted on Friday as saying European governments had the means to save the euro and could count on global support. He also predicted that financial markets' nervousness would gradually ease.
"I am totally convinced that we have all the means to preserve the future of the euro as a stable global currency," Schaeuble told French business daily Les Echos.
"The global economy, as well, more and more inter-dependent, has an interest in a strong European currency."
Asked about financial markets' nervousness despite a weekend deal for an 85 billion euro bailout for Ireland, Schaeuble said: "We currently have a concern which does not correspond to reality. But I am convinced that it will disappear as we apply in a consistent manner the decisions which have been taken."
RELIEF
On Thursday, Trichet provided relief for commercial banks in peripheral euro zone countries, some of which are frozen out of interbank lending and have become totally dependent on the ECB for funds, by announcing the bank would continue unlimited funding at its base rate for at least another three months.
And he sought to deter speculation against euro zone debt by reminding markets that the central bank was continuing to buy government bonds and explicitly did not discourage market expectations that it would be stepped up.
Referring to the policy the ECB started after Greece was bailed out in May, he said: "The Securities Market Programme (SMP) is ongoing, I repeat — ongoing … I won't comment on the observations of market participants."
Trichet acknowledged that the ECB's governing council was not unanimously behind the bond-buying policy, saying Thursday's decision was backed by an "overwhelming majority".
German Bundesbank president Axel Weber has publicly criticised the SMP as ineffectual and potentially inflationary and called for it to be halted.
