Deflation is hitting Europe hard. ECB in panick mode.


This article from Bloomberg is a pretty solid evidence that despite all the talk by Eurozone officials that they are not concerned about deflation in EU, the big D is hitting Europe hard and their financial policy makers are in panick mode overdrive pumping in unprecedented amounts of liquidity into the financial system. It appears though that nobody is paying attention anymore, since there were so many liquidity operations since the crises began in 2007.

European Bonds Advance as German Inflation Rate Stays at Zero

June 27 (Bloomberg) — European bonds posted a weekly gain, boosted by a report yesterday showing German inflation at zero that fanned speculation policy makers will keep interest rates at record lows to revive the 16-nation economy.

The gains drove the 10-year bund yield to the lowest level in more than a month after the Federal Statistics Office said inflation stayed at zero for a second month in June, the lowest level in at least 13 years. The Shadow European Central Bank called for a half percentage-point cut in the main refinancing rate next week. Austria’s economic slump will be deeper than forecast, Wifo, which compiles state statistics, said yesterday.

“Given the inflation numbers, the ECB shouldn’t change its stance,” Christoph Rieger, a fixed-income strategist at Commerzbank AG in Frankfurt. “Short-end rates will remain very well anchored at current levels and considering the ECB’s measure of channeling cash into the banks, this will encourage government bonds.”

The German 10-year yield fell four basis points to 3.38 percent as of 6 p.m. in London yesterday, bringing its decline in the week to 12 basis points. The 3.5 percent note maturing in July 2019 rose 0.37, or 3.7 euros per 1,000-euro ($1,408) face amount, to 100.93. The yield on the two-year note was little changed at 1.32 percent, bringing its weekly drop to 23 basis points.

ECB Meeting

Slowing inflation may help policy makers keep borrowing costs at all-time lows as they seek to fight the slump in the $12.3 trillion economy. There is a 56 percent likelihood that the Frankfurt-based ECB will cut the main refinancing rate by a quarter point to 0.75 percent next week, according to a Credit Suisse AG index. The probability was 34 percent a week ago.

The ECB, led by President Jean-Claude Trichet, next meets on July 2.

Government bonds around the world fell this year as stock markets rallied on speculation the worst of the global recession is over. Securities in Europe pared those declines this week as the Organization for Economic Cooperation and Development said the region faces a “grim outlook” and Bundesbank President Axel Weber said he sees no “substantial” recovery in Germany anytime soon.

Bonds rose even as governments in Europe issued more than 28 billion euros of debt securities this week as part of an unprecedented borrowing program to combat the recession. Italy sold 5 billion euros of 2012 notes yielding 2.46 percent yesterday. Demand exceeded supply by 1.2 times. It also issued 2.5 billion euros of 2019 debt yielding 4.5 percent with a bid- to-cover ratio of 1.51 as well as 2 billion euros of floating- rate securities due in 2014 and 2015.

12-Month Loans

Two-year yields fell to their lowest level in a month two days ago on speculation some of the ECB’s loans, offered to financial institutions June 24, are being invested in government debt. The ECB lent banks 442 billion euros for 12 months, the most it has ever allotted in an auction, as part of attempts to revive credit markets.

“The abundant liquidity after the recent 12-month operation by the ECB is favoring bonds, especially the front end,” said Giuseppe Maraffino, a fixed-income strategist at Unicredit Global Research in Milan.

The difference in yield, or spread, between German two- and 10-year securities narrowed to 206 basis points yesterday, from 210 basis points the day before. The spread was 205 basis points a week ago.

While raising the forecast for the combined economies of its 30 members June 24, the Paris-based OECD cut its expectation for the euro area to a 4.8 percent this year, compared with a 4.1 percent predicted in March. The Bundesbank “does not expect a substantial recovery in the near future” in Germany, the region’s largest economy, Weber said June 24 in a statement on the bank’s Web site.

Austrian Contraction

Austria’s GDP may decline 3.4 percent this year, the Vienna-based Wifo said yesterday. On March 27, the institute predicted a 2.2 percent contraction.

While the MSCI World Index of shares gained 4.6 percent this year, German bonds lost 0.4 percent, according to Merrill Lynch & Co.’s German Federal Governments Index. U.S. government debt has dropped 4.6 percent, Merrill’s U.S. Treasury Master Index shows.

The ECB lent banks 442 billion euros for 12 months, the most it has ever allotted in an auction, as part of attempts to revive credit markets – the ECB is fighting deflation here, that is clear as a day.

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