lend to the IMF, who in turn would buy the bonds. But that's tricky to implement and would run into all sorts of opposition.
An alternative is to have the eurozone banks load up on more sovereign debt, but the trick is to incentivize them to do so. What ultimately brought down MF Global when they held sovereign bonds was a funding squeeze. They held these bonds via a short-term repo and the counterparties refused to roll the repo loans.
Keenly aware of this issue, the ECB is making banks an offer the can't refuse - term funding via 3-year loans at 1%.
|ECB Benchmark Rate|
So the only risk remains is a significant downgrade of Spain within the next six months, making Spanish debt ineligible as collateral at the ECB. The AA- can and probably will drop at least a notch. But no worries - should Spanish debt get downgraded to junk, the ECB will simply waive the rating requirement as it did with Portugal.
In response, the Spanish six-month bill yield is down 300bp from the peak.
|Spanish 6-month bills yield (Bloomberg)|
This solves two problems for the ECB:
1. It gets banks to buy material amounts of eurozone sovereign debt where the ECB is unable to do so.
2. It also slowly recapitalizes the eurozone banks by giving them an opportunity to make significant amounts of money over time without much capital usage.
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