Francesca Landini and Andreas Rinke Milan and Beijing

A successful Italian bond auction yesterday pointed to growing confidence among investors that the European Central Bank (ECB) will live up to its words and take measures to change the course of the currency bloc’s debt crisis.

In Beijing, German Chancellor Angela Merkel appeared to temper China’s fears about the damage the crisis could wreak on the world economy, enough to elicit an undertaking that China would, under certain conditions, buy more euro zone bonds.

Since ECB president Mario Draghi vowed a month ago to do whatever it takes to save the euro, Spanish and Italian bond yields have fallen markedly, particularly for shorter-dated maturities. Now he has to follow through.

At a policy meeting next week Draghi is expected to reveal the ECB’s terms of engagement for intervening in the bond market, reconciling a resistant German Bundesbank to the plan while avoiding conditions that will scupper its effectiveness. Credible ECB action to lower Italian and Spanish borrowing costs would buy the two countries time to reduce their debt and push through economic reforms to boost growth potential.

Yesterday Italy sold debt worth e7.29 billion (R77bn) at its first auction in a month, and shifted the maximum targeted amount of a new 10-year bond at a yield well under its 6 percent pain threshold.

“It’s a lower yield than the previous one,” said Elisabeth Afseth, a fixed income analyst at Investec in London.

“I think it is very much to do with the ECB, and if we hadn’t had that, I suspect that both Spanish and Italian yields would have been considerably wider than where they are.”

Chinese Premier Wen Jiabao said a briefing by Merkel had assuaged some concerns, but warned that no quick resolution for the crisis was in sight. “The main worries are twofold: first is whether Greece will leave the euro zone. The second is whether Italy and Spain will take comprehensive rescue measures,” Wen said.

“After I heard her views, it increased my confidence. But I must honestly say, the implementation of these measures won’t be completely smooth,” Wen said, adding that China could be prepared to buy more EU government bonds after evaluating the prevailing risks.

His remarks helped lift the euro, although Beijing has made similar noises on bond-buying before with little result.

Draghi has said the ECB will buy Spanish and Italian bonds if called upon but that any recipient country must first seek help from the euro zone’s rescue fund, to which conditions will be attached.

Merkel has signalled her backing for Draghi’s strategy despite warnings from Bundesbank chief Jens Weidmann that to do so would risk letting indebted euro zone governments off the hook for the austerity measures and reforms they need to implement.

Sources say Weidmann is short of allies within the ECB and could not block the scheme.

Draghi has cancelled a visit to a gathering of top central bankers in Jackson Hole, Wyoming, suggesting he has his hands full knocking up a viable plan. “We have to see what the ECB can do by its statutes, but we also have to tighten controls because it cannot be that this leads to moral hazard,” Austrian Finance Minister Mario Fekter said in an interview. – Reuters