Bank funding costs: what are they, what determines them and why do they matter?

This new Bank of England primer is helpful in the context of the current concerns about the funding costs facing Irish banks – here.

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10 thoughts on “Bank funding costs: what are they, what determines them and why do they matter?”

  1. “What determines them” historically may not be the same as what is required now. We are living though extraordinary macro times.

    Insufficient demand is a problem everywhere

    http://blogs.ft.com/gavyndavies/2014/11/09/the-very-long-run-equity-bull-market

    “The decline in demand is then addressed by policy makers, either by fiscal expansion (reducing taxes and increasing subsidies on the poor) or by reducing interest rates set by the central banks. Since the fiscal response results in bigger budget deficits and higher public debt/GDP ratios, more and more of the burden of policy adjustment eventually falls on the monetary authorities. It is likely that this feedback loop will tend to increase both asset prices and inequality from one cycle to the next.
    A pernicious additional consequence of this loop is that private sector debt/GDP ratios are also likely to rise through time. Falling real interest rates increase the incentive to borrow, while rising asset prices, especially in the housing market, increase credit worthiness and therefore the ability to borrow.
    Debt ratios rise until they cause a crash, which of course is what occurred in 2008. This causes even greater and more permanent declines in real interest rates, which adds another twist to the cycle.
    As the BIS has pointed out, what appears to be a sensible response by the monetary authorities to a downturn in any individual cycle in fact simply exacerbates the long term problem. But it is extremely difficult to step off the monetary policy escalator without causing an almighty crash. No central banker is ever willing to allow that to happen on their watch.”

    No asset class is bulletproof

  2. We are headed for massive public works programs in Europe.
    The question is will it occur before or after the crash that will leave the EZ in tatters.

    The banks have to be taken out of the recovery scenario. The simple reason being the lack of sound collateral added to political and economic uncertainty.

  3. @Mickey Hickey.
    “The banks have to be taken out of the recovery scenario. ”

    Therein lies the real issue. EZ policy from day one has been to save to the banks. ie save bondholders and depositors. They have been saved, but in doing so everything and everybody else has been sacrificed.
    The solution was and is simple as far as the banks are concerned.
    A compulsory conversion of 20% of all bondholdings (collateralised or not) into equity; a 10% equity conversion for deposits in excess of 20,000 euros.

    The result would be healthy banks that could actually start lending again.
    Whether they have anybody willing to borrow at this point (after six years) is another matter.

    “We are headed for massive public works programs in Europe.
    The question is will it occur before or after the crash that will leave the EZ in tatters.”

    After.

    see Lautenschlager speech.
    http://www.ecb.europa.eu/press/key/date/2014/html/sp141129.en.html

    Only a debtor who intends to appoint a liquidator, puts credit risk ahead of the objective of ensuring that his/her customer remains a vibrant entity.

  4. Also, Mickey- one trend that the US, UK and Ireland share is virtually no real pay rises . I presume it is the same in euroland.
    Not going to help ‘recovery’ at all.
    Will need to be tackled along with public works.

  5. @ JR

    The EZ does not have the tools to fight a crisis coherently. That was why Trichet had to put the pressure on Lenihan.

    The EZ focused relentlessly on public debt with the 60% limits but gave very little attention to the ballooning in private debt pre 2008. At least 15-20% of EZ bank balance sheets filled with worthless assets and liabilities may be surplus to requirements in the low growth future we are facing. And how to sort these out is a real headache.

    When pigs know they are going to be killed they get very upset and the market herd is just as bad.

    When markets panic you need a credible adult to stand up and tell them to hand over the banks in trouble and wait patiently while they are rendered and if anyone in the queue starts screaming it will just take longer for them to get their money back. It’s like a mix of bouncer and butcher.

    In addition to agreed procedures to break up banks you need deposit guarantees to stop the potential for bank runs and you need a credible lender of large resort to mop up.

    The EZ has none of this. Which is why the panics are so extreme- it becomes existential precisely because nobody knows what is going to happen.
    So the CHF is still at 1.20 to the EUR and will be until the crisis tools become available.

  6. @ mickey
    plutocrats don’t like infrastructure investment and they don’t like pay rises for Main Street.
    the problem is that their ideology has reached its limits and something has to give. But it’s going to be a hell of a fight.

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