Special Government Bonds and the ECB

The ECB recently issued this opinion on the proposal by Cyprus to issue ‘special’ government bonds that may be used as collateral to obtain liquidity from the ECB.

8 replies on “Special Government Bonds and the ECB”

I can’t work out what the Cypriots are doing nor what the ECB is saying about it.

They seem to be giving the banks zero government bonds that will be canceled just before they mature. If that is the case how are they worth anything? And what good does it do for the banks?

The ECB notes that Article 5(10) of the draft decree specifies the level of haircuts to be applied to
collateral provided by the beneficiary credit institutions to the Cypriot government in return for the
bonds allocated to them. The types of eligible collateral are listed in Article 5(9)(b)(i) to (iv). Under
Article 5(9)(b)(i), collateral eligible in the Eurosystem for credit operations is also to be eligible as
collateral for the allocation of the bonds. In the interests of clarity, Article 5(9)(b)(i) could benefit
from the specification of the haircuts applicable to collateral eligible in the Eurosystem for credit
operations when this is tendered by beneficiary credit institutions in consideration for the allocation
of the bonds.
Is the foregoing in keeping with the Nama proposal?
It is also interesting that the bonds are revocable in the event of non-compliance with the objectives of the scheme. we have no such protections

So the bonds are only canceled if the banks don’t lend out the required amounts to SME and individuals?

How would they be priced by the ECB for repo operations?

The Cypriots are operating a SLS (Special Liquidity Scheme) in a manner similar to the one in the UK, but without the complexities. The banks are allowed to repo with the Cypriot government in return for zero coupon bonds at a particular haircut (one that matches the ECB haircut).

They pay the Cypriot government commission for holding these bonds that they can then use to repo either with the ECB or on the interbank market for cash.

It’s effectively a three year repo with slightly higher charges, I think. None of this messing about with valuing loans or taking ownership of them. Guaranteed funding for the banks at a consistent level of book value without having to risk their unpopular assets being shunned in the interbank markets (the Cypriots are clearly getting ready for exceptional liquidity support to dry up).

As long as none of the banks go bust, the government earns money on the scheme. Even if they do, a proper risk weighting might sort it out.

Very neat, very clever and pretty much approved (by the ECB) scheme.

It all sounds a bit familiar though… where did I hear of such an idea before…

Erm, he’s not exactly a Nobel laureate. Mr. Nobel didn’t much like economists, so he didn’t set up an award. So Mr. Stiglitz and the 61 others who have received awards for economics have received Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.

Apologies to many here for bringing up this delicate subject…

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