MNI SOURCES-ECB Could Signal Italy Bond Buys If Crisis Flares

--Italian Debt Flare-Up Could Prompt "Whatever It Takes" Redux

--OMT Only A Last Option, Not Currently Under Discussion

     LONDON (MNI) - The European Central Bank could indicate willingness to

directly buy Italian government bonds if Rome's dispute with the EU were to

worsen and threaten to tip it into financial crisis, Eurosystem sources told

MNI, while stressing that no such programme was currently under consideration.

     While Italy's standoff with Brussels has shown signs of easing, the ECB

could, in extremis, step in should sentiment sour once more, sending bond

spreads wider and eroding the capital of Italian banks, several Eurosystem

sources said. A full-blown crisis would probably require an expression of

willingness to conduct Outright Monetary Transactions to buy Italian government

bonds, along the lines of ECB President Mario Draghi's famous "whatever it

takes" speech at the height of the eurozone crisis in 2012, they said.

     "The OMT could be an appropriate option in a new worst-case scenario, for

it tackles disruptive risks in the monetary policy transmission mechanism," one

official said, adding that such a negative scenario was "ruled out" for the

moment.

     --TOOL IN AN EMERGENCY

     Another senior Eurosystem source said that while Italy's problems were

currently regarded as fiscal and not the ECB's responsibility, OMT would be a

likely fire-fighting tool in an emergency, although he added that the central

bank was "not even discussing whether to discuss it" at present.

     Sources have separately told MNI the ECB is already considering a fresh

round of targetted longer-term repurchasing operations to be made available some

time after the anticipated end of its asset purchases in December, motivated by

the difficulties some banks, including Italian lenders, might have in repaying

earlier rounds of TLTROS when they come due in 2020 and 2021. But such

instruments would not address a full-blown Italian debt crisis.

     "If the row between Rome and Brussels worsens, TLTRO isn't enough and it

looks like spreads are heading too high for comfort, we can expect another

"whatever it takes" moment from [Draghi]. This is most likely to come in the

form of forward guidance signalling the ECB's willingness to step in with OMT,"

a third Eurosystem official said.

     --HIGH BARRIERS

     There would be high barriers to such a move. The ECB cannot be seen to

tailor monetary policy to the needs of a single euro member country, and the

fact that Draghi is himself Italian would complicate the politics still further.

However, at least one Eurosystem official said a blowout in Italian spreads

might spark contagion among weaker eurozone economies, so the problem might no

longer be limited to Italy alone.

     An ECB spokesman declined to comment on the matter.

     In 2012, Draghi's words were enough to stem the selling of peripheral

eurozone bonds, and the OMT tool has still to be actually deployed. To be

eligible, Italy would have to accept a bailout programme, with tough conditions

like those imposed on Greece, something to which government officials contacted

by MNI were adamant they would never agree.

     Italy would never "bend its knee" and accept an OMT, which is "equal to the

Greek-style rescue plan carried-out by the Troika that literally destroyed

Greece and ruined families," a government source said.

     --NECK ON THE BLOCK

     But a Eurosystem official recalled the initial resistance of Greece's

left-wing Syriza government to bailout conditions.

     "Once your neck is to the block, you think differently. Remember the Syriza

vote on leaving the Eurozone. It changes very much in that moment, I've seen it

many times."

     Market concerns over Italy's spending plans have pushed the yield on

10-year sovereign bonds up by about 150 basis points since the populist 5-Star

Movement neared a coalition deal with the hard-right Lega, which was clinched in

June. Rome has indicated it would have to take unspecified corrective measures

if the spread with German bunds rose to 400 basis points, but the yield

difference eased to about 290 basis points on Tuesday after Deputy Prime

Minister Matteo Salvini signalled on Monday the government might be prepared to

lower its fiscal deficit plans.

     Market pressure could further soften Italy's negotiating stance, another

source said.

     "If they indicate compliance before next year, spreads could come in."

     The same source suggested that the Lega could bend under pressure from

influential business supporters but populist elements of the government may want

to avoid making significant concessions ahead of EU elections next year.

     Another central bank official was pessimistic for the longer term, saying

that Italian populism has become too deeply ingrained. The question was not so

much whether Italy will leave the euro, but whether its exit can be managed in

an orderly fashion, the source said.

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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