European leaders must deliver a convincing response to the eurozone's debt crisis regardless of a European Central Bank threat to raise interest rates, German Chancellor Angela Merkel said on Friday. She was speaking after ECB President Jean-Claude Trichet shocked markets on Thursday by saying the central bank may increase rates as early as April due to inflation risks.
After talks with Luxembourg Prime Minister Jean-Claude Juncker, who heads the group of euro area finance ministers, on preparations for two crucial summits this month, Merkel said they had agreed to do everything to keep the euro strong. "Regardless of the question of the ECB and interest rates, we know that we need to put a joint package for the euro zone on the table," she told a joint news conference.
She stressed Germany's priorities to strengthen fiscal discipline and boost economic competitiveness in the 17-nation single currency area, but did not rule out allowing the eurozone's temporary rescue fund to buy government bonds. Asked about letting the European Financial Stability Facility purchase bonds of vulnerable members states, Merkel said: "There is a lot of discussion going on about possible options and these need to be examined."
Her centre-right parliamentary coalition parties and the Bundesbank have publicly opposed allowing the EFSF to buy bonds or lend money to fund debt buy-backs by states in difficulty. EU diplomats say Germany is waiting to see what commitments other countries are prepared to give at a March 11 eurozone summit before showing its hand on the rescue fund and whether to allows its full 440 billion euros to be lent out.
Analysts said the ECB move raised pressure on EU leaders to agree on decisive action at two crucial summits this month. Failure would risk a savage market backlash, probably first against Portugal which is seen as the likeliest candidate to follow Greece and Ireland in needing a bailout.
"Intentionally or otherwise... the ECB's change of stance would also appear to send a timely signal ahead of (the) summit that it is not prepared to set monetary policy purely to support the region's weaker economies while European policymakers dither over a solution to peripheral debt crisis," Jonathan Loynes of Capital Economics wrote in a research note. The ECB did though decide to keep offering banks unlimited liquidity until mid-year, something Portuguese banks have relied upon. Prime Minister George Papandreou of Greece, the first country to require a eurozone bailout, warned EU leaders of a bond market backlash against the eurozone if they fail to take bold decisions at this month's summits.