{"id":26161,"date":"2011-12-22T14:29:10","date_gmt":"2011-12-22T19:29:10","guid":{"rendered":"http:\/\/countingpips.com\/fx\/2011\/12\/22\/the-european-central-bank-the-would-be-hero-comes-up-short\/"},"modified":"2011-12-22T14:29:10","modified_gmt":"2011-12-22T19:29:10","slug":"the-european-central-bank-the-would-be-hero-comes-up-short","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/fx\/2011\/12\/22\/the-european-central-bank-the-would-be-hero-comes-up-short\/","title":{"rendered":"The European Central Bank: the Would-Be Hero Comes Up Short"},"content":{"rendered":"

By The Sizemore Letter<\/a><\/p>\n

\"\"<\/a>With Europe\u2019s politicians continuing to stumble from one summit to another without a realistic plan for resolving the sovereign debt crisis, the one European institution that is keeping the entire system afloat is the European Central Bank.\u00a0 The ECB gave the capital markets a boost earlier this month when it announced that it would provide virtually unlimited liquidity to Europe\u2019s ailing banks in the form of low-interest loans of up to three years.\u00a0 Data released this week show that Europe\u2019s banks have accepted the ECB\u2019s offer with enthusiasm; 523 banks borrowed nearly half a trillion euros according to Reuters<\/a>.<\/p>\n

This was an enormous step forward, but a little perspective is necessary here. \u00a0The move more or less eliminates the risk of a disorderly default by a major bank\u2014a \u201cLehman Brothers moment,\u201d if you will.\u00a0 But it most assuredly does nothing to assist Europe\u2019s indebted countries, nor does it do anything to mitigate the risk that a sovereign default could turn the capital markets upside down.<\/p>\n

French President Nicolas Sarkozy effectively showed the rest of the world his cards when he suggested that banks could borrow unlimited funds from the ECB under this arrangement and then use them to purchase the government bonds of their respective home countries.\u00a0 In theory, this could work.\u00a0 Spanish and Italian banks could be \u201clenders of last resort\u201d to their cash-strapped government, stabilizing the bond markets and bringing yields back down to earth.<\/p>\n

But if this is what Mr. Sarkozy is proposing as a \u201csolution\u201d to the debt crisis, I fear the French President may be in for a disappointment.<\/p>\n

It was excessive purchasing of sovereign debt that got banks into this mess to begin with.\u00a0 If government bonds were \u201crisk free,\u201d then buying them with cheaply borrowed money makes a lot of sense.\u00a0 But as recent events have proven, European debt is anything but risk free. \u00a0What banker in his or her right mind would continue to throw good money after bad?\u00a0 And how would this be in the best interests of their shareholders?<\/p>\n

Meanwhile, European banks are already under enormous pressure to shrink their balance sheets, reduce their risky assets, and deleverage themselves\u2026and to do this while simultaneously keeping the lifeblood of credit flowing to European companies and consumers.\u00a0 Bank funds used to buy government bonds are bank funds that cannot be lent in the real economy.\u00a0 And given that Europe may already technically be in recession, is this what Mr. Sarkozy wants?<\/p>\n

And so the crisis rages on.<\/p>\n

For banks\u2014or any investors, for that matter\u2014to be buyers of Italian and Spanish debt, they need to be confident that they will get their money back.\u00a0 And for this to happen we need to see one of two developments, both of which are currently off the table:<\/p>\n

    \n
  1. A massive increase in direct buying of the troubled countries\u2019 sovereign debt by the European Central Bank on a scale big enough to drive down interest rates.<\/li>\n
  2. Some sort of \u201cEurobond\u201d scheme that shares liability across the Eurozone.<\/li>\n<\/ol>\n

    The proposed EU treaty changes that would enforce budgetary discipline would also do a fair bit to repair shattered confidence in the market, though even this alone is not sufficient without one or both of the options above.<\/p>\n

    Until Europe\u2019s leaders accept what the markets are currently screaming at them, we can expect more months of on again, off again volatility.\u00a0 Brace yourself; it\u2019s going to be a wild ride.<\/p>\n

    If you liked this article by Sizemore Insights<\/em>, you\u2019d probably enjoy The Sizemore Investment Letter<\/em>, our premium members-only newsletter. Click here<\/a><\/strong> for more information.<\/p>\n","protected":false},"excerpt":{"rendered":"

    By The Sizemore Letter With Europe\u2019s politicians continuing to stumble from one summit to another without a realistic plan for resolving the sovereign debt crisis, the one European institution that is keeping the entire system afloat is the European Central Bank.\u00a0 The ECB gave the capital markets a boost earlier this month when it announced … <\/p>\n

    Continue reading “The European Central Bank: the Would-Be Hero Comes Up Short”<\/span><\/a><\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[],"tags":[],"class_list":["post-26161","post","type-post","status-publish","format-standard","hentry"],"_links":{"self":[{"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/posts\/26161","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/comments?post=26161"}],"version-history":[{"count":0,"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/posts\/26161\/revisions"}],"wp:attachment":[{"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/media?parent=26161"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/categories?post=26161"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.investmacro.com\/fx\/wp-json\/wp\/v2\/tags?post=26161"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}