ECB's “nuclear option”

By Yoshiaki Nohara and Ben Levisohn

May 10 (Bloomberg) -- The euro weakened against the dollar, losing gains after an unprecedented loan package announced by European leaders for the region’s most-indebted members.

The yen rose against higher-yielding currencies as lingering concern about Europe’s sovereign crisis boosted demand for Japan’s currency as a refuge. The European Central Bank said yesterday it will counter “severe tensions” in “certain” markets by purchasing government and private debt, adding to signs the central bank will keep interest rates low.

“The debt crisis remains unsolved on a mid- to long-term perspective,” said Satoru Ogasawara, a foreign-exchange analyst and economist in Tokyo at Credit Suisse AG. “There’s still a risk that the crisis may spread from Greece to Spain and Portugal. The loan package has ended the recent panic sell of the euro, but the euro will struggle to climb from here.”

The euro traded at $1.2770 as of 9:16 a.m. in Tokyo from $1.2787 in New York yesterday, when it soared as much as 2.7 percent. Europe’s single currency closed at $1.2755 on May 7 before the aid package was announced. The currency declined to 118.54 yen after rising 2.1 percent yesterday to 119.28 yen. The dollar fell to 92.83 yen from 93.29 yen.

The euro has lost 7.5 percent this year, based on Bloomberg Correlation-Weighted Indices. The dollar has gained 5.1 percent, while the yen has risen 5.3 percent.

Governments of the 16-euro nations agreed yesterday to lend as much as 750 billion euros ($958 billion) to the most-indebted countries in the region.

The European Central Bank said in a statement it will intervene in government and private bond markets “to ensure depth and liquidity in those market segments which are dysfunctional,” and central banks in Germany, Italy and France began buying government bonds yesterday. The ECB restarted a dollar-swap line with the Federal Reserve.

By resorting to what some economists have called the “nuclear option,” the ECB may open itself to the charge it’s undermining its independence by helping governments plug budget holes. ECB President Jean-Claude Trichet said the move wasn’t supported by all 22 of its Governing Council members.