(Reuters) - Euro zone sovereign bond markets steadied Thursday ahead of a crucial European Central Bank policy-setting meeting that investors hope will signal a more aggressive approach to fighting the currency area's debt crisis.
Yields of Italian and Spanish 10-year bonds fell in early trading before an auction in which Spain planned to sell up to 3.5 billion euros ($5 billion) of government paper after crisis telephone consultations with European Union authorities.
Japanese authorities acted to bring down the strong yen, joining Switzerland in efforts to tame currencies buoyed by safe-haven demand from investors fretting about the health of the global economy and the euro zone's debt woes.
All eyes were on the ECB, with the chief European economist of credit ratings agency Standard & Poor's urging it to re-activate its bond-buying program to stabilize battered euro zone sovereigns.
"Markets are still moving so we need someone to intervene," S&P's Jean-Michel Six said. "The only effective fireman capable of rushing out of the fire station at top speed is the European Central Bank, which has played an admirable role since the start of the crisis to calm markets.
He told France-Inter radio that until a contagion-fighting plan adopted by euro zone leaders last month came into effect, which requires parliamentary approval in some countries, the ECB had to play an interim role.
The controversial ECB program has been dormant for four months and there is strong opposition to reviving it among guardians of central banking orthodoxy in Germany who argue it compromises the core mission of fighting inflation.
The ECB bought 76 billion euros of sovereign bonds, believed to be only Greek, Irish and Portuguese, to stabilize markets last year but critics said the Securities Market Program had only limited, short-term impact and did not prevent any of those countries from requiring EU/IMF bailouts.
Spanish Economy Minister Elena Salgado, speaking on Wednesday night after a crisis meeting on the economy with Prime Minister Jose Luis Rodriguez Zapatero, said the bond sale would take place as scheduled despite a surge in Spanish and Italian bond yields to 14-year highs in the past several days.
"We think the tensions will last a few more days, but the bond auction will go ahead Thursday," Salgado said.
The yield on Spain's 10-year bonds climbed as high as 6.50 percent Wednesday because of investor doubts about Madrid's ability to continue financing its debt over the long term, before drifting back to close at 6.27 percent. It fell a further 21 basis points against benchmark German Bunds in early Thursday trading.
Italy's 10-year yield fell back below the psychologically important 6.0 percent threshold, with some traders saying they expected the ECB could act, either with a longer term repo or secondary market bond-buying.
Analysts say that if yields go much higher and stay there, markets could force Spain, the euro zone's fourth biggest economy, to follow Greece, Ireland and Portugal in seeking an international bailout.
"Hearing Zapatero had canceled his holidays showed the situation was desperate. The 7 percent (yield) mark is a psychological barrier and is just not sustainable because it's far too costly to finance at these levels," said Jo Tomkins, analyst at consultancy 4Cast.
Euro zone leaders agreed at a summit last month to give the bloc's bailout fund sweeping new powers to help indebted states and intervene in the bond market, but the changes are unlikely to be passed by national parliaments until late September at the earliest.
If the ECB does not revive the program, central bank president Jean-Claude Trichet may at least indicate willingness to use it if the crisis worsens, some analysts believe.
The ECB, which has raised official interest rates twice this year, may also signal it will put any further tightening on hold because of slowing economic growth in the euro zone and globally, even though inflation is well above target.
Japan sold one trillion yen ($12.6 billion) and its central bank eased monetary policy Thursday to try to push down the yen against the dollar and euro.
Economy Minister Kaoru Yosano said policymakers of major economies needed to discuss currencies at either Group of Seven or Group of 20 level -- the first official call for multilateral action since twin crises over U.S. and euro zone debt became acute last month.
Official sources in several G7 countries said Wednesday they were not aware of any move so far to involve the G7 or G20, but that France, which holds the chair of both groups this year, might consult those forums if the turmoil persists.
In Italy, the euro zone's third biggest economy, Prime Minister Silvio Berlusconi promised Wednesday to step up economic reforms and called for a broad-based effort in the country to fight the market turmoil.
"The government and parliament will act, I hope, with a large political and social consensus to fight every threat to our financial stability. Today more than ever, we need to act all together," said Berlusconi, in a speech which did not give substantial new details on policy.
Berlusconi is due to meet employers' groups and unions on Thursday to try to thrash out a plan to stimulate the economy. But the head of the largest union, the left-wing CGIL, responded coolly to his speech.
Susanna Camusso said it lacked concrete proposals, and that negotiations were already "getting off on the wrong foot." The leader of the opposition Democratic party, Pierluigi Bersani, said Berlusconi should resign.
In addition to Italy and Spain, some investors are becoming jittery about the finances of France, the euro zone's second biggest economy. The spread of 10-year French government bonds above German Bunds hit a euro lifetime high of 0.81 percentage point Wednesday.
This is problematic partly because any lasting solution to the euro zone's crisis may have to involve a drastic expansion of its 440 billion euro bailout fund. That would put a greater financial burden on France, a big contributor to the fund, and could push up its yields further.