FRANKFURT (MNI) – Germany is unlikely to yield to French pressure
to leverage the European Financial Stability Facility (EFSF) via the
European Central Bank, but ongoing disagreements over the leveraging
mechanism may yet put additional burden on the ECB’s balance sheet.

On Thursday, German Finance Minister Wolfgang Schaeuble said that
boosting the bailout fund’s firepower by granting it access to ECB
refinancing operations is prohibited by the Maastricht Treaty. “Germany
will not agree to this,” he said.

His comments follow an emergency meeting Wednesday night for which
French President Nicolas Sarkozy flew to Frankfurt to patch up
disagreements with Germany that threaten to undermine much-needed
results at the upcoming summit on Sunday.

In a meeting with his German chancellor Angela Merkel, their
finance ministers and European Central Bank President Jean-Claude
Trichet, France continued to push for a key role for the ECB in
leveraging the bailout fund.

The meeting was also attended by Trichet’s successor Mario Draghi,
Eurogroup head Jean-Claude Juncker, IMF head Christine Lagarde as well
as European Council and Commission Presidents Herman Van Rompuy and Jose
Manuel Barroso, who had gathered in Frankfurt for festivities to mark
the end of Trichet’s eight-year term in office.

Trichet has repeatedly voiced his opposition to the EFSF financing
itself via the ECB.

In a legal opinion released earlier this year, the ECB found that
— at least as regards the EFSF’s successor, the European Stability
Mechanism — making it a counterparty in the central bank’s refinancing
operations would violate the Maastricht treaty’s prohibition against
monetary financing.

Monetzing debt remains the ultimate taboo in Germany, and after the
ECB, Bundesbank President Jens Weidmann and the German government itself
have publicly said that an ECB leverage solution would violate
Maastricht, Schaeuble would be hard pressed to justify any change in his
position.

The more likely eventual outcome will be one based on a German
proposal to leverage the EFSF up to as much as E1 trillion by investing
its funds in a “first loss” insurance scheme that offers guarantees on
bonds of troubled member states.

But even if the ECB is not asked to accept the EFSF as a
counterparty, any delay in leveraging the fund as a result of political
disagreement could still force the central bank to continue its
increasingly controversial and unpopular interventions in the secondary
bond market.

Depending on the outcome of the October 23 summit, such
interventions might have to be stepped-up significantly.

According to a report in German Daily Handelsblatt, Schaeuble will
“no longer categorically rule out” the risk of a Greek default in
negotiations with private banks. According to the report, Schaeuble
repeated this statement several times in the parliamentary committee in
Brussels Wednesday.

The ECB has “strongly advised against all concepts that are not
purely voluntary or that have elements of compulsion” and “called for
the avoidance of any credit events and selective default or default.”

In its latest Monthly Bulletin, the bank warned that a default
could quickly impair the funding access of other Eurozone member states
and spark mutually reenforcing sovereign debt and banking crises.

“We know that private sector involvement is more costly for the
European taxpayer than the politicians think,” Executive Board member
Juergen Stark, the ECB’s chief economist, said Thursday.

Should leaders fail to agree on an effective leveraging mechanism
quickly enough, the ECB could be the first to pay the bill.

–Frankfurt newsroom +49 69 72 01 42; e-mail: jtreeck@marketnews.com

[TOPICS: MT$$$$,M$$EC$,M$X$$$,M$$CR$]