European banks hoard cash at ECB

Reflecting the simple fact that no one can tell which banks are solvent and which are not, EU banks are hoarding record amounts of cash at the ECB in the event the financial crisis intensifies and their access to funding is interrupted.

Readers recall that the inability of market participants to determine the solvency of each bank froze the interbank loan market and the bank unsecured debt market at the beginning of the credit crisis and again late last year.

There is only one solution that will allow market participants to always be able to determine a bank's solvency.  That solution is to require banks to provide ultra transparency and disclose their current asset, liability and off-balance sheet exposure details.

Any other solution just leaves banks with their current disclosure practices that results in banks resembling 'black boxes'.  As 'black boxes', market participants cannot determine if banks are solvent or not.

At the same time, market participants learned at the start of the crisis not to trust what regulators had to say about solvency.  Going into the crisis, regulators were maintaining that the banks were low risk as financial innovation had allowed them to transfer risk to better holders throughout the financial system.

As everyone learned, this was not true.

Given that the Financial Crisis Inquiry Commission and the Bank of England's Mervyn King view the inability to determine individual bank solvency as a major contributor to the on-going crisis, the question is:  why have regulators not addressed this issue.

The Wall Street Journal reported on Europe's growing cash hoard.

Some of Europe's biggest banks are increasingly hoarding their cash at central banks, anxious the continent's crisis could intensify and leave them with bigger problems. 

At the end of March, 10 of Europe's biggest banks had parked a total of nearly $1.2 trillion of cash at central banks around the world, according to an analysis by The Wall Street Journal of bank disclosures. The total is $128 billion higher, or a 12% jump, since December ....

After a three-month thaw earlier this year, bank-funding markets are showing signs of another freeze. 

European banks that deposit their money at central banks rather than lend it to customers or use it for other purposes are ensuring they have ready access to funds if they encounter trouble refinancing their debts or if other emergencies prompt customers to withdraw large amounts of money, such as credit-rating downgrades. 

Much of the $440 billion increase by the 10 European banks since September is a byproduct of the $1 trillion of cheap three-year loans that the European Central Bank doled out to hundreds of banks in recent months. Such loans were intended to defuse a looming liquidity crisis as banks struggled to borrow money. 

Central bankers and policy makers also hoped the infusion would coax banks to start lending more and buy their governments' bonds, in turn helping to ease economic and financial problems in Europe. 

Instead, recent disclosures by the banks reviewed by the Journal show they are largely playing it safe. Banco Santander SA borrowed about €40 billion ($52.3 billion) from the ECB. Last month, Spain's biggest bank by most measures said in a regulatory filing that it "deposited most of the funds captured in the ECB, which boosted significantly its liquidity buffer while improving its structure by replacing short-term maturities with longer ones."... 

The No. 1 priority is to keep the bank safe during a rocky period," said Bruce Van Saun, finance chief at RBS, where cash reserves at central banks rose to £82 billion ($132.4 billion) at the end of March. "The funding environment is still improved from the second half of last year, but it is getting a little jittery in Europe." 

That flood evaporated with the resurgence of euro-zone anxiety this spring. In April, European banks sold a total of about €24 billion of bonds, according to Dealogic. Aside from last December's anemic €12.8 billion total, April's bond issuance was the smallest amount in more than a year. 

The trend is especially stark among Spanish and Italian banks. After churning out a total of nearly €9 billion worth of unsecured bonds in the first quarter, Italian lenders didn't manage to sell any in April, according to Dealogic. In Spain, banks sold just €18 million of such bonds in April, after issuing nearly about €8 billion in the first three months of the year. 

It isn't just bond investors that have grown wary of lending to some European banks. Fellow banks have tightened their purse strings, too. 

Spanish banks saw the amount of interbank loans drop about €51 billion in March, while Italian banks lost €29 billion of such funds, according to analysts at RBC Capital Markets. 

"The contraction is worryingly large, and highlights the speed with which interbank flows can affect a banking system's liquidity position," the RBC analysts wrote in a May 2 research note. 

The situation is prompting banks to remain conservative. Over the rest of 2012, Spanish banks face about €61 billion of bonds maturing, while Italian lenders face about €43 billion. By keeping most of the money they borrowed from the ECB parked at various central banks, the lenders can tap those reserves if markets remain shut.