The Spanish economic minister has quite the chutzpah in requesting unlimited bond buying from the ECB. Spain could cut spending and balance the budget in order to lower interest rates on its debt, but it rather hold its hand out to its allies.
Let’s take an unlimited bond buying program to its logical conclusion using the facts we have learned from previous ECB interventions.
In September, a worsening budget situation in Spain leads to rising interest rates across the yield curve. Super Mario sees his chance to save the euro and begins buying Spanish debt to support the price. Upon the markets learning this information, Spanish yields plunge bringing interest rates to sustainable levels but not for long.
Remember the Greek bailout? The ECB and other institutions made sure they got paid back in full on their Greek bond positions, which meant that private bondholders had to take a greater loss. This preference comes back to bite the ECB. Now, the market prices in the ECB preference, so yields begin to creep back up despite the ECB purchases. Once the ECB is committed to bond buying, it cannot stop it. Investors begin selling their debt at inflated prices right back to the ECB to avoid getting screwed in a Spanish default.
Now, the ECB has a choice to make. It can either monetize the rest of the Spanish debt, or it can withdraw support allowing the market to collapse and Spain to default. Which disaster do you think it will choose?