The European Central Bank is preparing to unleash its financial might and buy government bonds to help drive down borrowing costs in debt-ridden countries like Spain and Italy, caught in the grip of what president Mario Draghi called a “worsening crisis.”

Draghi urged leaders of the 17 countries that use the euro to use their bailout fund to take the same action, sending a clear message: Europe’s financial crisis requires more forceful remedies than leaders have so far been able to muster.

The move towards bond buying came a day after the Federal Reserve hinted it was leaning toward further action to stimulate U.S. growth, highlighting the growing pressure on central bankers to rescue weak economies across the globe.

This would not be the ECB’s first try purchasing government bonds from banks on secondary markets to help drive down interest rates. That effort began in May 2010 and stopped in March after it did not decisively lower borrowing costs. The bank purchased more than (EURO)210 billion ($255 billion) in government bonds – but the program wasn’t big enough to make a difference in the market. This time the ECB is promising any intervention will have “adequate size.”

Negative reaction in the markets was strongest in Spain and Italy, the third- and fourth-largest economies in the eurozone and the countries most vulnerable to high borrowing costs. The interest rate, or yield, on Spain’s 10-year bonds rose above 7 percent, while the country’s main stock index plunged by nearly 5 percent. The yield on Italy’s 10-year bonds climbed above 6 percent and the country’s main stock market index sank by more than 4 percent. The euro fell 0.2 percent to $1.2215.

Financial markets were disappointed by the lack of immediate action and that the bank had few specifics to offer on the bank’s emerging plan to save the euro. Stocks were sharply lower across Europe, while borrowing costs crept higher for the eurozone’s financially strapped countries.

Member governments of the 17-country euro have already bailed out Greece, Ireland and Portugal with emergency loans after high borrowing costs left them unable to pay their debts. But Spain and Italy are much larger and if they should be cut off from affordable borrowing, any bailout would strain the eurozone’s bailout funds.

The temporary EFSF has (EURO)440 billion ($534.5 billion) in lending power, most of it committed to the bailouts for Greece, Ireland and Portugal. The ESM has not come into effect yet, but will have (EURO)500 billion ($607 billion) – one-fifth of which is already committed to bailing out Spain’s banks. Spain and Italy together have some (EURO)2.5 trillion ($3 trillion) in debt.

 

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