Euro zone ministers agreed on Tuesday to ramp up the firepower of their rescue fund but couldn't say by how much and raised the possibility of asking the IMF for more help after Italy's borrowing costs hit a euro lifetime high of nearly 8 percent.
Two years into Europe's sovereign debt crisis, investors are fleeing the euro zone bond market, European banks are dumping government debt, deposits are draining from south European banks and a looming recession is aggravating the pain, fuelling doubts about the survival of the single currency.
The 17 ministers agreed on a detailed plan to insure the first 20-30 percent of new bond issues for countries having funding difficulties and create co-investment funds to attract foreign investors to buy euro zone government bonds.
Both schemes would be operational by January with about 250 billion euros from the euro zone's EFSF bailout fund available to leverage after funding a second rescue programme for Greece, Eurogroup chairman Jean-Claude Juncker said.
The aim was for the International Monetary Fund to match and support the new firepower of the European Financial Stability Facility, Juncker told a news conference.
"We also agreed to rapidly explore an increase of the resources of the IMF through bilateral loans, following the mandate from the G20 Cannes summit, so that the IMF could adequately match the new firepower of the EFSF and cooperate even more closely," he said.
But with China and other major sovereign funds reticent about investing more in euro zone debt, EFSF chief Klaus Regling said he did not expect investors to commit major amounts to the leveraging options in the next days or weeks, and he said he couldn't put a figure on the final size of the leveraged fund.
"It is really not possible to give one number for leveraging because it is a process. We will not give out a hundred billion next month, we will need money as we go along," he said.
Italy had to offer a record 7.89 percent yield to sell 3-year bonds, a stunning leap from the 4.93 percent it paid in late October, and 7.56 percent for 10-year bonds, compared with 6.06 percent at that time.
The European Commission's top economic official, Olli Rehn, said Prime Minister Mario Monti's new government would have to take extra deficit cutting measures beyond an austerity plan already adopted to meet its balance budget promise in 2013.
The Italian yields were above the levels at which Greece, Ireland and Portugal were forced to apply for international bailouts, but European stocks and the euro held their ground in apparent relief at the strong demand, with the maximum 7.5 billion euros sold.
French Prime Minister Francois Fillon dismissed a report in business daily La Tribune that ratings agency Standard & Poor's would lower its outlook on France's AAA credit rating to negative within 10 days as "nonsense".
Such a move would deal a severe body blow to the euro zone's ability to rescue heavily indebted countries.
LOOKING TO IMF IF EFSF FALLS SHORT
The Eurogroup ministers agreed to release their portion of an 8 billion euro aid payment to Greece, the 6th installment of 110 billion euros of EU/IMF loans agreed last year and necessary to help Athens stave off the immediate threat of default.
Juncker said the money would be released by mid-December, once the IMF signs off on its portion early next month.
With Regling unable to put a single figure on the scaled up EFSF, which EU leaders had hoped would reach 1 trillion euros, finance ministers said the IMF may have to provide more help, possibly bolstered with European money.
"We will have to look at the IMF which can also make available additional funds for the emergency fund. I think countries in Europe and outside of Europe should be prepared to give more money to the IMF," Dutch Finance Minister Jan Kees de Jager told reporters.
"We have talked about leverage though private money, but it would be two or two and a half times an increase so not sufficient and we have to look for other solutions to compliment the EFSF and that in my mind will be the IMF," he said.
With Germany opposed to the idea of the European Central Bank providing liquidity to the EFSF or acting as a lender of last resort, the euro zone needs a way of calming markets.
The ECB shows no sign yet of responding to widespread calls to massively increase its bond-buying.
One option EU sources said is being is explored is for euro system central banks to lend to the IMF so it can in turn lend to Italy and Spain while applying IMF borrowing conditions.
"We will discuss with the ECB. The ECB is an independent institution, so we will put on the table some proposals and after that it is for the ECB to take the decision," Belgian Finance Minister Didier Reynders told reporters.
The ECB failed for the first time since May to fully offset 203.5 billion euros in euro zone government bond purchases, adding to fears that the debt crisis is ratcheting up stress on the bloc's banking sector.
A Reuters poll of economists showed a 40 percent chance of the ECB stepping up bond-buying with freshly created money within six months, something it has opposed.
The poll forecast a 60 percent chance of an ECB rate cut to 1.0 percent next week and a big majority of economists said they expect the central bank to announce new long-term liquidity tenders to help keep banks afloat at its Dec. 8 meeting.
MONTI TO UNVEIL HIS PLANS
Monti outlined his fiscal and economic reform plans to the euro zone ministers amid reports, officially denied in Rome and Washington, that Rome has held preliminary discussions with the IMF on financial support.
Italy has debts of 1.9 trillion euros - equivalent to 120 percent of national output - and needs to refinance some 340 billion euros of maturing debt next year with big redemptions starting in late January. Tuesday's auction suggested it will struggle to keep borrowing costs under control without help.
Most analysts say the ECB will have to intervene more decisively on bond markets and the euro zone will have to agree eventually to issue common bonds, but Germany opposes both.
Berlin has pinned its efforts on a drive for closer fiscal integration among euro zone members.
Chancellor Angela Merkel told lawmakers she would not make a deal at a Dec. 9 European Union summit to drop resistance to joint euro zone bonds in exchange for progress on strengthening fiscal rules, MPs quoted her as saying.
She told a closed-door meeting Europe was "a long way from euro bonds", suggesting they may not be ruled out forever.
For now, Germany and France are pressing for coercive powers to reject euro zone members' budgets that breach EU rules, alarming some smaller nations who fear the plans by-pass mechanisms for ensuring equal treatment.
Berlin and Paris aim to outline proposals for a fiscal union before the EU summit that is increasingly seen by investors as a last chance to avert a breakdown of the single currency area.
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