Euro-bank Crisis. Is it over?
Two years after
After The Great Recession hit the US economy with gale force, it was the turn of the Euro-Zone areas to face the brunt of this recessionary typhoon. Starting with Iceland and Ireland, it soon spread to Greece, Spain, Portugal, and ominously, Italy.
With European banks highly exposed to debt issued by distressed European Governments, it seemed that the European banks could go under. Needing about a trillion dollars, EU spent much time wrangling about the rescue plan – the who-and-how of the bailouts. Decisive Christmas actions by the European Central Bank (ECB), patterned on the lines of the US TARP and QE actions, the Longer-Term Refinancing Operation (LTRO) …
created a buzz.
But questions remain
Will LTRO stabilize the European banking, even if it will not generate growth? Will it blow away the clouds hanging over the EU banking industry?
The first major development occurred on December 8. The European Central Bank (ECB) declared that it will offer unlimited liquidity to European banks for 36 months. To access that liquidity, the banks need to post appropriate collateral. The “appropriate collateral” by my reckoning includes the sovereign debt of Italy and Spain. This is important, because the large European banks — especially in France — are having very serious and possibly existential problems with their liquidity. Fears of potential default are making it unusually difficult for them to access overnight and other short-term lines of credit to finance their balance sheets. That constrains their abilities to provide credit to clients and meet their commitments.
Without the ECB’s new policy, euro-zone businesses face the prospect of grinding to a halt. Inventories are difficult to finance. Payrolls might not be met. Taxes might not be paid. Now, with unlimited liquidity available from the Central Bank, that credit crunch should be history. We saw the same relief from a very similar U.S. credit crisis in 2008 when the Federal Reserve Bank agreed to accept many kinds of collateral from its member banks for unlimited funding. The fact that the largest U.S. banks are still standing demonstrates that this policy can be effective.
Today, we had our first look at the results of that policy as this ECB financing operation was launched. It opened its window and loaned $641 million (errata: an alert 2ndlook reader points out that the correct figure is US$641 billions – and not millions) for three years at 1% annually to 523 European banks . The size of the refinancing was greater than expected. It is noteworthy that the program went smoothly. It demonstrated to the global financial community that the European banks not only have access to liquidity at very favorable interest rates — far better than the rates available on the private markets.
The second major development occurred on December 5. After months of being the “bad guys” to the rest of Europe on the issue of who should share the pain of the sovereign debt debacle, Angela Merkel, German Chancellor, agreed to align with the majority of the euro zone. Germany no longer insists that private sector investors bear the losses on their balance sheets as sovereign debt is written down. Instead, it appears that the governments will likely now shoulder the cost of buying bonds or doing what it takes to manage the problem.
Exactly how and when the sovereign debt issues will be resolved is still unclear. But at least a major impediment has been removed.
With these two major developments, I would expect the capital markets to breathe a sigh of relief. The liquidity and solvency issues surrounding the European financial system are finally seriously being addressed. Of course, the devil will be in the details. (via Is the euro-crisis over? – MarketWatch).
- Bini Smaghi Says ECB Should Use QE If Deflation Risk Arises (businessweek.com)
- ECB Lends Banks $645B for Three Years, Exceeding Forecast – Bloomberg (bloomberg.com)
- Gold Is Money (lewrockwell.com)
- EU ministers look to boost IMFs arsenal (theglobeandmail.com)
- Demand for E.C.B. Loans Surpasses Expectations (nytimes.com)
- ECB Official Hints At More Help If Economy Worsens (huffingtonpost.com)
- $641 billion to European banks from ECB – Santanomics (2ndlook.wordpress.com)
- ECB loans highlight funding pressure on eurozone banks (guardian.co.uk)
- Banks Stash Money With European Central Bank (foxnews.com)
- How a Huge Infusion of Cheap Money will Help European Banks But Not Europeans (globalspin.blogs.time.com)
- European Central Bank pumps $639B cash into banking system (usatoday.com)
- David Miles: Europe’s Dance of Death (huffingtonpost.com)
- Yes, the Market is Getting What it Wants. The ECB is Easing. (blogs.wsj.com)
- The Thinly-Veiled Fed Bailout Of Europe (businessinsider.com)