The European Central Bank is discussing a medium-term plan to scrap rating rules on euro zone sovereign bonds and instead set their value when used as collateral in lending operations on its own internal assessment, central bank sources said.
With the European Central Bank not yet ready to take over the technical but highly political responsibility for rating sovereigns, the bank's policymakers will also discuss more immediate ways to help Spain and its banks at their meeting on Thursday, such as further widening the types of collateral Spanish banks can use.
The discussion come as Spain braces for a downgrade from small rating firm DBRS, which without a change in ECB rules will trigger an extra 5 percent penalty on Spanish bonds when used to get ultra-cheap ECB funding.
ECB members have heavily criticized the actions of rating agencies during the euro zone crisis and have vowed to reduce reliance on their assessments.
"In the case that the ECB Governing Council decides this, it would reduce the widely criticized influence of Standard & Poor's, Moody's and Fitch," one euro zone central bank source who spoke on the condition of anonymity said. "On the other hand, this could also expand the shrinking pool of collateral which banks in troubled countries have available."
The decision on more immediate changes to help funding-squeezed Spanish banks, such as expanding the range of debt-backed securities or government-backed bank bonds, remains wide open, said another central banker.
Spain plans to recapitalize its banks with up to 100 billion euros from the euro zone bailout fund , and while the ECB wants to ensure banks are not strangled by a lack of funding, it also wants to avoid removing too much of the pressure now on Madrid.
Spanish banks are now some of the biggest users of ECB funding. Madrid will publish an assessment of the health of its banking sector later on Thursday, with results expected to show there is around a 70 billion euro capital shortfall.
Banks have to submit bonds or other types of securities to the ECB as collateral if they want to access its liquidity. Throughout the crisis, the requirements on such collateral has been repeatedly reduced to ensure troubled banks remain able to refinance at the central bank.
Opposition, in particular from the Bundesbank, has been strong, however. The German central bank has argued that the dramatic loosening of the rules has increased the risk of lending to banks for the ECB and the national central banks.
It is still unclear what criteria the ECB would apply in the future if it ditches the use of rating agencies in the area of sovereign bonds .
One central bank source said there would continue to be a sliding scale of haircuts (charges) that would be applied to the different countries' bonds.
"It is clear that the ECB will continue to make reductions depending on the creditworthiness of the country whose bonds are submitted to it as security," said the insider.
It would be a bold move by the ECB. It would have to employ its own experts and design robust methodologies to assess states' creditworthiness while at the same time tread a delicate line that could further throw into question its political independence.
Another central bank official said it could also be part of a wider coordination among major central banks including the Federal Reserve and Bank of England to reduce the power of rating agencies.
"We are not yet there operationally but this (coordination between major central banks) may well be the medium-term solution," he said.
"At this stage we are just discussing among ourselves the kind of methods we might use for our own internal assessment, so whether in the future we will really have a harmonized and convergent approach I think it is a bit too early to say.
"But even if we don't have full convergence we will have a situation where central banks will be more able to do the assessment internally rather than relying on rating agencies," he said.