Germany a Huge Beneficiary from ECB Operations

One thought that I should have put in my, em, original Sinn post is the following.

Sinn and others believe that the Target 2 balances show that ECB operations have created a big risk for the German taxpayer, channelling lots of funds from Germany to Ireland. In fact, the truth is exactly the opposite.

The big change in Target 2 balances in recent years shows that German banks were huge beneficiaries of ECB operations. Without the intervention of the ECB, there is no way that the Irish banks or the government that backed them would have been able to pay back the huge amounts they owed German banks.

So the ECB operations allowed the German banks to turn hugely risky loans to Irish banks into completely safe deposits with the Bundesbank (the Bundesbank’s Target 2 balances are the mirror image of these deposits). Now, of course, Germany will share 28% of the credit risk stemming from these operations. But the rest of the Eurosystem has taken on 72% of the risk of operations that have hugely benefited German banks and the taxpayers that would have had to recapitalise them in the absence of the ECB operations.

38 thoughts on “Germany a Huge Beneficiary from ECB Operations”

  1. Germany is also a huge beneficiary from its benchmark/safe haven status within the Eurozone, in terms of its cost of funds. The average yield on its bond/bill debt of over €120bn is below its inflation rate; it is also well below the Eurozone average (ex Germany itself, Portugal, Ireland and Greece).

    Of course the yield on existing debt means little of itself but, when one notes that over €40bn, or 34% of its outstanding bond/bill debt (plus an estimated €50bn of new debt due for issue) requires financing or refinancing by end-2012, at current yield levels there is a saving to accrue to the German taxpayer, probably in the order of €4bn+ p.a. over the lifetime of this borrowing.

    And, being in the eurozone, Germany as a net exporter benefits from a significantly more competitive exchange rate than it would under a NeuDM – all the low interest rate benefits of a reserve/safe haven currency, without the drawbacks of an overvalued exchange rate.

    It’s another counterbalance to the Bild/Merkel view of thrifty burgers being taken advantage of by feckless peripherals.

  2. Karl:

    Original sins are also called cardinal sins, and serendipitiously the late Archbishop of Manila was,one Cardinal Jaime Sin. I wonder if perchance they could be related?

  3. @KW
    Quite a silly post. German banks were not the only ones to finance Irish banks. In fact, much of the financing was coming from outside the Euro Area, if I remember correctly.

  4. @ Incognito

    I could say that’s quite a silly reply. I never said German banks were the only ones lending money to Irish banks.

    But the changes in Target 2 balances do show very large movements of funds from peripheral to German banks which were facilitated by the ECB.

    Non?

  5. @ Karl

    Please give this a miss. The bad guys are the Irish banks who completely lost the run of themselves not the German banks who thought Ireland was being properly regulated.

  6. “So the ECB operations allowed the German banks to turn hugely risky loans to Irish banks into completely safe deposits with the Bundesbank (the Bundesbank’s Target 2 balances are the mirror image of these deposits).”

    That seems basically correct to me. However, this does not seem a fair representation to me:

    “Now, of course, Germany will share 28% of the credit risk stemming from these operations. But the rest of the Eurosystem has taken on 72% of the risk of operations that have hugely benefited German banks and the taxpayers that would have had to recapitalise them in the absence of the ECB operations.”

    The 28% of credit risk that Germany is sharing through the ECB does not relate only to the initial credit risk of the German banks, but also to the credit risk of all the banks (including those outside the Euro Area BTW) that had lended to Irish banks and have exited scots-free thanks to ECB funding.

    Sorry, no. (I hope I am not sinking here 🙂 )

  7. @ Incognito

    Obviously the 28-72 risk sharing split applies to all ECB operations.

    When I say “72% of the risk of operations that have hugely benefited German banks” I mean that everyone else is shouldering 72% of the risk and that the operations have disproportionately benefited German banks.

    I agree the wording above is open for misinterpretation if you’re inclined to believe that I don’t know how the Eurosystem operations work. There are lots of things I don’t know about but this isn’t one of them.

    Anyway I’m happy to stand by “the changes in Target 2 balances do show very large movements of funds from peripheral to German banks which were facilitated by the ECB.”

  8. I do not doubt that you have a very good understanding of Eurosystem operations.

    “Anyway I’m happy to stand by “the changes in Target 2 balances do show very large movements of funds from peripheral to German banks which were facilitated by the ECB.”

    I have no problem with that either. Anyway, this is a side issue. I think the ECB is right to fund Irish banks given the circumstances.

    But I do not think that providing funding on such a scale for such a long time should be part of a central bank’s remit. For me, this requires a different institutional setup, probably some kind of Finance Ministry as proposed by Trichet.

  9. So Herr Sinn will no doubt take the appropriate approach to this “news” and remain silent….or if challenged directly, offer a blank stare and a hurt expression that the accuser could assume political motives behind what is an obviously well argued “scientific” fact.

    It’s the playbook our own dear economists use when challenged, so it must be part of some internationally recognized standard.

    When critics in Ireland ask about the basic fairness of a “resolution” which effectively benefits insiders (developers, politicians, senior economists in public ally funded universities amongst others) at the expense of residential mortgage holders, they are met with silence, accused of throwing stones and generally ignored.

    No much better to separate the arguments. Private sector wages must fall and the legal system must lean on residential mortgage holders, because “what else are we to do?” we are trapped by the fact that our debt is unaffordable.

    But when public sector wages are mentioned, all of a sudden, it’s all about benchmarking, yes salaries are higher than peers in other countries, but when adjusted for benefits the bil isn’t that high, so hands off our salaries! No mention of a county’s capacity to pay in that debate. Ohhh noooo…
    And any mention of default, no, no and no again…we must honor our debt, because otherwise Armageddon would ensue…just not on our backs, take it off the little guy…let’s privatize blah blah

  10. So Germany are Huge beneficiaries of Target2. Maybe. Ireland are Huge, Huge, Huge beneficiaries. Certain.

  11. This reminds me of the High Scool debating point that the Americans were the Huge beneficiaries of the Marshall Plan.

  12. @ Bklyn_rntr

    “It’s the playbook our own dear economists use when challenged, so it must be part of some internationally recognized standard.

    when public sector wages are mentioned, all of a sudden, it’s all about benchmarking, yes salaries are higher than peers in other countries, but when adjusted for benefits the bil isn’t that high, so hands off our salaries! No mention of a county’s capacity to pay in that debate. Ohhh noooo…”

    Who are you talking about? Could you name some names of Irish economists who are saying this? I’d be happy to link to their contributions on this blog to further debate.

  13. Karl,

    for ‘breakfast’, yikes, I watched the CESifo 1,5 hours Sinn presentation (in german) from May, – Why Germany is threatened by a debt tsunami –

    I would comment that I am worried, I guess I am not the only one, If the biggest brains on these matters, and beyond doubts H.W. Sinn belongs into that category, disagree on fundamental functions of the monetary system that we have in place.

    I hope some analysis of this report here will follow:

    http://www.cesifo-group.de/portal/page/portal/ifoHome/B-politik/70eeagreport

  14. To Critics of Karls Whelans rebuttal of Prof Sinn:

    The rebuttal of Dr Sinn’s distorted, skewed and plain wrong explanation of the Target 2 system was very necessary for the following reasons:

    1. Dr Sinn’s musings, whether right or wrong set an agenda in Germany of how to deal with the present EZ/EU/ crisis and all european countries will be affected by the positions and attitudes adopted by Germany. Ireland should not allow its future to be determined or influenced based on a falsehood, regardless of where that falsehood comes from.

    2. In his article De Sinn glosses over 2009 in the following fashion

    It was imperative to avoid a collapse of the GIPS in 2009.

    Why?. The answer is simple and goes straight to heart of EU solidarity.
    Clearly he rightly believes that without drastic ultra vires intervention in 2009, periphery collapse would have endangered the core countries, so it was “imperative” to interven. Now in 2011 and certainly by 2013, Dr Sinn must believe that the core would survive a peripheral collapse. Ergo, cut them loose. But careful, limb by limb, starting with Greece.

    3. We should look to our famine history books for Trevelyn’s declaration in late 1847 ? that the famine was over when considering Dr Sinn’s next remark.

    As the Great Recession is now over, it is time to stop the surrogate lending by the ECB system.

    Good sound bite, if you live in Germany.
    The great recession may be over in Munich, it is certainly not over in Munster. Not by a long shot.

    4. Those who seek to conflate the rebuttal, with the the culpability of the Irish banks, regulators and government, are doing exactly what Ireland’s detractors want to do. Blame all the Irish. We are all collectively guilty and therefore must accept, with grace, collective punishment.
    Archbishop Arnaud, apparantly on the advice of Pope Innocent 111, would no doubt concur in this idea of collective punishment as he gave his orders at Beziers:

    In Latin “Cædite eos. Novit enim Dominus qui sunt eius”; in French “Tuez-les tous, Dieu reconnaîtra les siens”; in English “Kill them all. God will know his own”.

    5. To seek to conflate this rebuttal of Dr Sinn with the failure of Ireland to collectively share the burden of adjustment is also incorrect. They are two very separate issues. Both of these issues cry out correction. Neither issue should be let stand unchallanged.

    6. Karl Whelan, is absolutely right in the above follow up thread, which is a technical explanation of what most people instinctly knew all along. The “bail-out” was about letting private bank lenders (of all countries) off the hook and socialising the debt.

    7. And finally it should not go unsaid in this thread. There are billions of Irish deposits sitting in the accounts of other European banks. In addition there is up to €100 billion in pension assets offshore.
    If we take Dr Sinn’s advice that the Tagret accounts be settled once a year, the the solution is simple. All Irish assets must be repatriated to Ireland or confiscated to pay Dr Sinn’s Target2 bill.

    Capital controls are a two way street.

    Well done to Karl Whelan on his rebuttal.

  15. Excellent series of articles , at least what I can understand of them.

    Perhaps the ECB decided in its interests not to soil its own nest – its a logical poltical motive.
    I see the western world as struggling with great diffulity on the energy question – if Ireland reduces its crude oil consumption from 200 to 160 barrels a day then in a one currency area that surplus will flow elsewhere.
    It seems we are in a zero sum world now especially after decades of non wealth forming consumption.

  16. As an outsider, which sometimes is a beneficial position of observation, if anything at all, this target 2 discussion that is exploding now in WSJ, FT, etc. and that was somewhat triggered by Karl – Thumbs up! – shows to me that the massive structural problems within the banking sector are a far cry from being solved, instead we got Basel III, while the underlying structural problems were neglected.

    This is what the public more than likely does not understand. They are not kicking a can down the road, but a whole Euro pallet full of cans.

    Apart from that, Sinn’s statements filter down to the public opinion of course, which contributes to the ‘lazy mediterranean’ view of the German public, the diligent German saver is asked again to cough up for the Greeks, stirring all kinds of sentiments and nationalistic bullcrap.

    Just my , 0,002 grams of Gold.

  17. For those who are not endowed of an expertise in the Eurosystem, it should be pointed out that bailing out German speculators is a very small part of the Target2 story. The overwhelming reason why the Irish banking system needs such Huge official support is that nobody, including its own citizenry, want to touch it with a 40 foot pole.

    Similarly, the reason the Irish sovereign needs such such Huge official support is that Irish citizens prefer to fund other governments’ deficits rather than their own.

  18. Sorry not 160 barrels a day!!!! … I hope , I think its more like 160 thousand bpd

    Incidentally what is the most accurate crude oil consumption figures ? – I am basing these on perhaps out of date CIA fact book figures

  19. Germany and France have been massive beneficiaries of our bank guarantee and bondholder support too.

    I do not understand why Lucinda Creighton thinks everybody hates us when we have stood on our head for Europe for the last number of years.

    If people don’t like us then Lucinda should tell them how the last Government went further than they could have dreamed to protect Europe.

  20. @ Zhou_enlai
    Couldn’t care less if they hate us – we’ve seen how they treat their friends.
    In fact – all the better if they hate us and we hate them – that’s a proper European relationship.

    Whatever happens from here on out we can only afford to spend what we earn. We just need to make those painful adjustments straight away and then we are free to do whatever we want (default/leave the Euro – whatever)
    I’d take a 40% pay cut if my mortgage was cut by 50% and if the state could default 100% on its debt – damn right I would. Get sovereignty back for my country and give my children a future. We need a referendum on this kind of proposal.

  21. @Brian woods II

    Similarly, the reason the Irish sovereign needs such such Huge official support is that Irish citizens prefer to fund other governments’ deficits rather than their own.

    JTO again:

    As befits a northerner and graduate of Queens’s University mathematics department, you have cut through all this southern bullshit and waffle and hit the nail bang on the head with 100 per cent accuracy and precision.

    Taking it further:

    As of this moment in time (i.e. 10.35am – 10 June 2011), they are losing heavily from this decision, especially those who have been funding the UK deficit and are receiving a NEGATIVE 3% to 4% REAL interest rate for their generosity (in contrast to cunning JTO, who is currently raking it in).

    This situation will change only if there is an apocalyptic default/devaluation type scenario. If something along those lines happens, then their gamble will have paid off and they will make a big capital gain (in contrast again to by-then-impoverished JTO, whose savings would be sunk in that scenario). If something along those lines doesn’t happen, it is they who are sunk.

  22. The Target 2 figures reflect the fact that the German banks are lending to the ECB, while the Irish banks are borrowing – but they do not necessarily show that there was any previous interbank lending that this replaces, and no evidence seems to be offered to prove that part of the contention.

    The available figures from the irish Central Bank show that lending by all eurozone creditors to the Irish covered institutions was never large – at their high point in 2007, eurozone lenders owned €16.75bn in securities in the covered banks, which was 13.5% of the total securities at that time.

    Holdings of securities in Irish banks by all eurozone creditors have fallen, but only to €9.6bn, so clearly the German banks have hardly “replaced hugely risky loans to Irish banks”, because their money appears largely still to be in the Irish banks.

    If German banks have in fact *not* swapped existing risky Irish bank debt for safe ECB debt, then they have, by increasing the level of their lending to the ECB – and in turn to Ireland – increased the level of their exposure to an Irish default, exactly as Sinn says, not reduced it as Whelan claims. That that exposure is shared is true, of course, but that’s not the same thing.

    The Central Bank figures are publicly available here: http://www.centralbank.ie/data/site/cmbs/ie_table_a.4.2_covered_institutions_-_aggregate_balance_sheet.xls

  23. @ Scofflaw

    “If German banks have in fact *not* swapped existing risky Irish bank debt for safe ECB debt, then they have, by increasing the level of their lending to the ECB – and in turn to Ireland – increased the level of their exposure to an Irish default, exactly as Sinn says, not reduced it as Whelan claims. That that exposure is shared is true, of course, but that’s not the same thing.”

    Ok, this is just being silly. You seem to be using the word exposure in multiple different ways. If I’m only take 27% of a loss of X, then my exposure is .27*X not X.

    By this new definition of exposure, every country in the Euro area has the same exposure as Germany.

  24. @Karl

    That doesn’t seem to actually address the point. You’re quite correct about Germany’s exposure via the ECB being fractional, but your claim that this is a decrease of Germany’s exposure rests on your unsupported claim that the German banks were previously exposed directly to more than that fractional exposure amounts to.

    The Central bank figures for eurozone money in the covered institutions constrain the amount of exposure German banks can have had to those institutions. And the figure for *all* eurozone holdings of covered bank securities at their high point is lower than Germany’s 0.28 share of the ECB’s current exposure by quite some margin. The fall in that amount is lower yet.

    The maximum amount of securities German banks could previously have held in the covered institutions is €16.75bn, assuming that they held *all* the eurozone securities of the covered institutions.

    Their exposure through the ECB is 0.28*€160bn = €44.8bn.

    That’s an increase in exposure. Quite a large one – three times as much – even if we assume the whole €16.75bn of previous exposure was all Germany’s, which is a large (and unfounded) assumption, and that none of the securities are now held by Germany, which is another large and unfounded assumption.

    There is a tendency to use the Basel BIS figures in order to estimate the exposure of other countries to Irish banks. Unfortunately, these are meaningless in terms of the 6 institutions we’re actually bailing out, because the Basel figures cover 83 institutions, including the whole IFSC financial hub. There’s a lot of French and German money in the IFSC, but that has nothing to do with the Irish taxpayer – that money is just tax-resident in Ireland. On the other hand, there isn’t a lot of eurozone money in the covered institutions – and, more importantly, there never was.

    And replacing little direct exposure with three times the amount in fractional exposure would seem to be an increase in exposure in anybody’s terms.

  25. @ Scoffy

    “The maximum amount of securities German banks could previously have held in the covered institutions is €16.75bn, assuming that they held *all* the eurozone securities of the covered institutions.”

    Those figures don’t actually tell you who owns those bonds. I’ve discussed this before
    http://www.irisheconomy.ie/index.php/2011/05/02/who-owns-senior-irish-bank-bonds/

    Anyway, you can try to make this seem complicated if you want but it’s not. The Target 2 balances do actually tells us something useful. There was a huge transfer of money away from Irish banks and towards German banks, facilitated by ECB operations. They must wake up every day and thank God that the ECB ensured they got back all their money they placed with Anglo.

    I’m less enthused.

  26. @ Karl

    Unfortunately, that point still leaves you without any proof of your contention that there was any large amount of German bank money in the Irish banks. The CBI data can be said not to show securely that the eurozone banks definitely weren’t involved – at least as secondary purchasers or indirect purchasers – but it definitely cannot be said to show what you’ve claimed. The Target 2 balances cannot tell you that either, since they’re multi-party. Nor can the Basel BIS statistics, because they cover too many banks.

    None of these sets of figures is sufficiently constrained to make it possible to make any sort of solidly founded claim that there was a lot of German bank money in the Irish banks that was then turned into ECB borrowings. The CBI data is, however, the best approach to the question of what Irish banks owe to eurozone counterparties – something I have recently been assured of by the Banking Federation, and something which fits with the comments made by German banks about their exposure.

    I don’t see that as complicated – you can’t, or at least haven’t, shown a vital part of your argument to be true. It seems strange to build such a definitive set of statements on what appears to be a complete lack of evidence.

  27. @ Scoffs

    It doesn’t really matter what the (Irish?) Banking Federation told you. Those who produce the CBI statistics do not argue that they can be used in the way you wish to use them.

    Let’s just say I have my interpretation of the data and you seem to disagree.

  28. The problem, rather, it seems to me, is that you have presented no evidence at any point that German banks previously had a large exposure directly to Irish banks.

    And, dare I say it, you seem to be avoiding that point in preference to pointing out deficiencies in the CBI statistics – but even if they cannot tell us anything at all (and I take your points about beneficial ownership) that simply removes something that appears to directly *contradict* your claim – but the absence of contradiction isn’t in any sense proof.

    So…on what evidence do you base your contention that German banks had a large direct exposure to Irish covered banks?

  29. Without delving too far in to matters here…..

    The CB figures for the ELG institutions are quite new – the CB only started publishing them earlier this year.

    They are quite different from the other two categories previously released as they exclude 1) the IFSC and 2) The foreign retail banks serving the economyas we all know. However, in these other two categories it is clear there was a huge influx in debt issuances to the Euro Area whereas in the ELG figures it only seems to have gone from practically nothing to 16bn. I am not suggesting the 16bn was small but I was certainly under the (probably misguided) impression that all this cheap euro money referenced in the various banking reports (and DoF report) was in much grater amounts

    Indeed, as noted above, debt issuances to the Rest of the World (non-euro/non-Irish) category increased from 13bn to 80bn at the peak.

  30. @Karl Whelan & Scofflaw & Rob S

    The 2007 peak figure of €16.75bn for Irish bank “securities” owned by eurozone lenders is surely not a synonym for “2007 peak Eurozone bank exposure to Irish banks” (even if the Eurozone banks actually owned the securities)?

    Were short-term money-market balances not far in excess of this figure at peak ?

  31. Well, yes indeed, the German banks were the main beneficiaries of the target2-program of the ECB because it enabled them to reduce their exposures/lending to the Irish banking system gradually over time.

    On the other hand the ECB (or the Irish Central Bank to be precise) had to extend its lending operations with Irish banks to replace the diminishing foreign lending in order to keep the Irish banking system afloat. This lead to the growing negative target2-(im-)balance with the ECB. In these open market operations the Irish Central Bank accepted, however, to a great extent collateral in the form of Irish sovereign bonds.

    And this is the major point of concern with respect to the possible risks arising from the target2-mechanism of the ECB right now. Because in the event of a sovereign default of the Republic of Ireland the collateral value accepted by the Irish Central Bank would eventually collapse and would therefore not be suffcient enough anymore to back all the negative target2-(im-)balance with the ECB.

    This risk, however, would have to be beared by all central banks participating in the ECB-system equaling their respective share in case the ECB would need recapitalization due to this default event.

    This recapitalization in turn would have to be provided for by the national governments or in other words by the taxpayers in the respective Eurozone member states. Hence, though it is fair to say that the German banks were the main beneficiaries of the Target2-program of the ECB. It has also to be stated that this does not hold true for the German taxpayer or any other taxpayer in any other Eurozone member state.

  32. So Karl. I have to admit I’m thinking you may be wrong on this from my reading of what scofflaw and others have said elsewhere. Can you address his points?

Comments are closed.