* APP could be used to channel some of the stimulus -sources
* PEPP still seen as the main instrument -sourcesBy Francesco Canepa and Balazs KoranyiFRANKFURT, Nov 3 (Reuters) - The European Central Bank couldoffer less generous support for indebted governments when itputs together a further stimulus package next month, to pushthem to apply for European Union loans tied to productiveinvestments, sources told Reuters.The ECB promised last week to introduce more measures inDecember to help euro zone countries cope with the second waveof the coronavirus pandemic, including new lockdowns that willcurtail economic activity.The four sources who spoke to Reuters said policymakers weredebating whether the ECB should extend its Pandemic EmergencyPurchase Programme (PEPP), which gives it unprecedentedflexibility in buying bonds from any country in distress, or itsregular Asset Purchase Programme (APP), under which purchasesshould mirror the relative size of each country.This is because PEPP has driven down borrowing costs forindebted governments such as Spain and Portugal so much thatthey are shunning EU loans tied to digital and green investmentsin favour of raising no-strings cash on the bond market.
The composition of the package should be decided at theECB's Dec. 10 policy meeting and the sources said a compromisecould be on the cards, with both PEPP and APP being expanded butthe former remaining the main instrument.An ECB spokesman declined to comment.
The difference between the two programmes is material andthe decision will have implications for how much help the ECBmight give to the bloc's most indebted countries.
The ECB has significantly overbought Italian and Spanishbonds under PEPP since the first wave of the pandemic in thespring, helping lower their bond yields to pre-pandemic levels-- a welcome relief for their governments at a time of stress.But in doing so, it has made borrowing from the EU's NextGeneration fund less attractive.
This form of official credit, unveiled in response toCOVID-19, must be spent on green or digital projects and vettedby the EU -- making it less palatable to governments thanselling bonds when the difference in interest rates is small.
EMERGENCY OVER?No European government has yet applied for the NextGeneration Fund loans, and Spain and Portugal have suggestedthey are in no rush to do so.That has irked some ECB rate-setters, who fear governmentswill not spend the money they have raised productively.They are advocating that the new stimulus be channelledthrough the long-established APP, which would restrict fundingfor different countries according to pre-determined quotas,known as the capital key.In their view, extending emergency bond purchases beyondnext June is not justified as bond markets, which had seized upin the spring for weaker borrowers, have taken the second waveof the pandemic in their stride."There's an "E" in PEPP for a reason," one of the sourcessaid.Other policymakers, however, maintain that the euro zone isstill in the acute phase of the pandemic and PEPP shouldcontinue, in line with the ECB's own guidance.The debate has started to spill into the public domain.Dutch central bank governor Klaas Knot said on Tuesday PEPPwas a temporary tool but that Europe was still in an emergencysituation and the outlook for inflation worsening. A day earlier, ECB board member Yves Mersch said PEPP'sflexibility should not be extended to other schemes, which mustremain bound by the bank's 'red lines'. The ECB has exhausted nearly half of PEPP's 1.35 trillioneuro ($1.60 trillion) firepower, which it has given itself untilnext June to deploy.Italy accounts for just over a quarter of the nationalgovernment bonds bought under the programme and Spain for 17% -significantly more than their respective quotas in the ECB'spaid-in capital.APP is running at 20 billion euros per month plus a 120billion euro envelope for this year, which is all but spent. (Editing by Catherine Evans) Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.