Wednesday, February 29, 2012

What is cheap ECB liquidity actually solving?

The ECB held its second three year long term refinancing operation (LTRO) this morning. Overall 800 banks requested €529bn in funding. The market and wider reaction has been mixed – the amount was well within expectations although the number of banks was much higher (up from 523 last time). The larger number of banks is widely being seen as positive since it suggest smaller banks took part this time - and they are more likely to lend directly to businesses - while on average banks asked for less liquidity.

The more important figure though, is how much of this is new liquidity. Of the previous €489bn LTRO only around €200bn was new lending, since banks rolled over their previous loans from shorter ECB lending operations. In this instance (since many loans have been rolled over) the new injection of liquidity is likely to be much higher. We expect that the new liquidity totalled between €300bn and €400bn.

Short term loans issued by the ECB earlier this week totalled €134bn, while €150bn of short/medium term lending is also due to expire this week - both can be seen to give an indication of the amount of lending which will be rolled over. Much of the new lending will have come from the loosened collateral requirements (€200bn or so) as well as the decreased ‘stigma’ associated with banks which borrow from the LTRO.

We’re yet to see a full list of who borrowed what (and probably won’t for some time) but there are some details (we’ll update as more come through):

Intesa Sanpaolo (IT) - €24bn
Lloyds (UK) - €11.4bn
Allied Irish (IR) - Unknown
Banco Popolare (ES) - €3.5bn
KBC (BE) - €5bn
Unicredit (IT) - <€12.5bn (not that this helps pin down the figure much)
BBVA - Similar to first LTRO (around €11bn)

Italian banks are reported to have tapped the LTRO for around €100bn in total, while banks such as ING (NL) and ABN Amro (NL) have stated that they did not tap the operation at all. Clearly 'stigma' is not an issue in Italy but alive and well in the Netherlands, presenting an interesting microcosm of the problems facing these countries.

One point we’d note is that the first LTRO was not tapped heavily by banks from the bailed out countries. There is no evidence that banks from Portugal or Greece took any ‘new’ lending from the first LTRO while Irish banks only took an additional €5bn (% of their current borrowing from the ECB and Irish central bank). This could be for one of two reasons: the banks are more or less blocked from taking on massive amounts of extra liquidity since they should be leveraging and meeting stringent capital requirements under the bailout programmes. Or, the banks in these countries had run short of collateral to post with the ECB in exchange for loans. It will be interesting to see if this problem held true in the second LTRO, given the loosened collateral requirements – early indications with the Portuguese borrowing costs jumping suggest it will.

This shows how the LTRO will not solve any of the eurozone problems. In fact it may not even help sentiment or lending in the worst hit countries. The Italian and Spanish banks look likely to increase their purchases of their domestic government debt, further intertwining eurozone states with their banking sectors. The question now is, how many more LTROs will there be?

Given the lack of a credible solution to the problems in Greece and Portugal we fear more may be on the horizon.

Ps. For you German speakers, it's well worth reading this piece from Die Welt's Holger Zschäpitz on why the LTRO is turning the ECB into a lender of first instance rather than one of last resort

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