Tuesday, January 17, 2012

Wary Eurozone banks continue to boost deposits with ECB

According to an Irish Times article, Eurozone banks have now parked almost 500 billion euros with the ECB.
Commercial banks parked almost half a trillion euros at the European Central Bank, the highest on record, as the mix of debt crisis worries and a recent giant injection of ECB cash left banks awash with money but too scared to lend it....
ECB data released today show overnight deposits reached a new high of €493 billion up from the €490 billion they had risen to on Friday.... 
Changes to the ECB's reserves rules, which kick in on Wednesday and will mean banks have to keep less of a cash buffer at the ECB, are raising questions about future deposit levels. 
The move will cut banks' reserves ratio requirements to 1 per cent from 2 per cent and is set to save banks €100 billion according to the ECB. 
On one hand that could mean banks - who won't be able to repay old ECB loans early - may have even more spare cash to deposit. Alternatively, the impact may be minimal if banks react by cutting back on what they take at the ECB's once-a-week, 7-day funding handouts. 
With total ECB lending at 664 billion euros, banks are now storing over 70 per cent of money lent by the ECB at the central bank, compared to around a third after the collapse of Lehman Brothers back in late 2008....
This deep reluctance of banks to lend to one another continues to paralyse money markets and highlights the barriers to achieving any substantial relief in the euro debt crisis.
The ECB's Mario Draghi said in a Bloomberg article that this reflects:
growth prospects in the euro region are “dismal” and that the situation is “very grave.” 
He said the ECB’s three-year loans to banks last month had helped to avoid “a major credit crunch.” 
“We see that the key refinancing markets for banks are clogged; the interbank market is basically not functioning,” Draghi said. “The unsecured bond market was not functioning -- completely not functioning -- until we launched this facility. We have avoided a major credit crunch, even though in some parts of the area this credit crunch” is “already on its way.”

In 2008 when the interbank loan market froze, banks did not trust each other because they could not determine who was solvent and who was not solvent.

Here we are in 2012 and banks still cannot tell who is solvent and who is insolvent and the interbank loan market is frozen and unsecured bond market is not functioning.

Yes, central banks can supply unlimited liquidity and replace the interbank loan market and unsecured bond market funds.  However, this does not mean that the underlying cause of the interbank loan market freezing and the unsecured bond market not functioning has been addressed.

There is only one way that has been proven to be successful in addressing the underlying solvency issue:  ultra transparency.

When banks provide ultra transparency and disclose on an on-going basis their current asset, liability and off-balance sheet exposure details, market participants, including competitors, can independently assess each bank's solvency.

Based on this assessment, the interbank loan market with thaw for solvent banks and the unsecured bond market will function for solvent banks


Anonymous said...

It would be great if the banks gave "ultra transparency". But I don't think that we will see transparency like that because if we did there would be huge backlash and things would immediately come to around the world. And there would likely be blood in the streets.

Richard said...

History suggests that there would be far less backlash.

For example, in the 1980s, everyone knew that US banks were holding loans to less developed countries on their balance sheet at par when the same loans could be purchased for 50-60% of par in the market.

When the banks finally revealed what was on their balance sheet, rather than get pounded by the market, their share price increased.

I think the reason this happened is that the market is already trying to guess what it thinks is the true size of the losses hidden on and off bank balance sheets. When the market finds out what the true size is, the market is relieved if the true size is remotely close to the market's guess.

Once the losses are known, the distortion to the real economy caused by hiding the losses will end. I am optimistic that with the ability to price assets again, the global economy will start to grow again.

Hal (GT) said...

That's an interesting thought, Richard. And a good point about the market trying to guess the true size of the losses. I'm going to have to chew on it for a while. My immediate reaction is that it appears today that the level of corruption and market manipulation is far greater today than it was in the 80's, but, given my age, I don't really remember the 80's all that well.

Thanks for the response. And I hope you're right in your optimism.