Tuesday, December 27, 2011

Europe: can the ECB and the Confidence Fairy save Europe?

The European Central Bank (ECB) gave European private banks a big Christmas gift by making effectively unlimited credit available to them for short-term (three years in this case) loans for which eurozone bonds are used as collateral. Credit is freezing up badly in Europe because the banks are seriously undercapitalized, and this was a measure to ease the crunch.

Since eurozone bonds are the collateral, it could be a backdoor way for the ECB to act as borrower of last resort for eurozone sovereign debt, something it has refused to do explicitly. Because it gives the private banks more incentive to buy eurozone bonds.

The ECB action was too little to solve the eurozone debt crisis. But it was a measure to ease the pressure and buy time.

Initial indications of its actual effect are discouraging: Angst-Indikator.Banken bunkern Hunderte Milliarden Euro bei der EZB Spiegel Online 27.12.2011. According to the Spiegel report, banks are using what amounts to a huge injection of liquidity not for loans to businesses or governments but rather stashing it in low-interest accounts at the ECB. The level of those ECB deposits has soared to its highest level since the introduction of the euro.

If the ECB action were having its desired effect, there would be more interbank deposits among private banks, which would have boosted their mutual liquidity and allowed them to do more lending. Not now, at least not yet. "Die Banken trauen sich gegenseitig nicht mehr, weil unklar ist, wie stark einzelne Institute gefährdet sind, weil sie in Staatsanleihen angeschlagener Euro-Länder investiert haben." ("The banks no longer trust each other, because it is unclear how strongly endangered individual institutions are due to having invested in the bonds of distressed euro countries.")

Another sign of how relatively ineffective central banks money magic can be in depression conditions. (Or under any conditions? But that's a broader issue.)

A test is coming this week, when Italy is going to market with a new tranche of its bonds. The interest rate they require will be a sign of whether the ECB action will persuade private banks to buy up more eurozone sovereign debt.

Meanwhile, the Very Serious People in Germany, like Vice Chancellor Philipp Rösler of the Free Democratic Party (FDP), are saying, oh, nothing much to worry about in Germany for 2012, we probably won't have a recession here, and if we do it won't be so bad, yadda, yadda. (Drohender Abschwung.Rösler hält deutsche Wirtschaft für krisenfest Spiegel Online 27.12.2011)

The idea is that happy talk about the economy will please the Confidence Fairy, who will then not desert them and will keep the German economy in good shape.

And least the Very Serious People currently wrecking the euro and the EU haven't resorted to voodoo rituals yet. Although voodoo, come to think of it, is probably a much more sophisticated way to approach things that praying to the Confidence Fairy.

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