On Friday, the Central Bank reported (in Table A.2 of its Credit, Money and Banking statistics) that its lending to euro area credit institutions as part of the ECB’s monetary policy operations jumped from €95 billion in August to €119 billion in September. This represents one-fifth of the total amount of ECB lending that took place in September.
I have put together some charts here that illustrate what is going on with Irish bank borrowing from the ECB. First, some technicalities. The release reports (on Table A.2) how much ECB-related lending the Irish Central Bank did. It also reports (on Table A.4) how much ECB-related borrowing our banks did but these tables are a month behind. The first chart, however, shows that the two series are pretty much the same most of the time and they have been very similar lately. (I’m not sure what makes up the difference. It may be a statistical discrepancy or it may be due to different reporting periods.)
The second chart shows ECB borrowing by Irish banks broken down into the Domestic Banking Group (taken from Table A.4.1.) and the rest (essentially meaning IFSC institutions.) Non-domestic bank borrowing from the ECB has been pretty stable lately. Also, there’s little secret as to why the domestic banks needed to borrow more from the ECB during September: Many of the bonds issued under the September 2008 guarantee matured last month when the original guarantee expired. The banks were not able to issue new bonds to roll over the maturing bonds and so much of the funding to pay off September’s maturing bonds came from ECB borrowing.
The final chart shows the total share of Eurosystem lending accounted for by the Irish Central Bank and also shows the fraction of Eurosystem borrowing accounted for by the domestic banks. I have assumed in this chart that the €24 billion increase in September’s ECB lending from the Irish Central Bank all went to the domestic banks, so I’m issuing a health warning about the last point on the green line: This is not data, but rather my guess as to what this series will show when released next month. Health warning issued, it looks as though the fraction of Eurosystem borrowing accounted for by the Irish banks probably reached about 14% as of September. This would be the highest fraction yet accounted for by these banks.
What happens now? Unfortunately for the Irish banks, there are signs that the ECB is considering taking steps to end the dependence on its liquidity operations of banks that can’t get bond market funding. The last month has seen a plethora of newspaper articles prompted by the ECB insiders briefing journalists using the phrase “addict banks” to describe those banks still dependent on Eurosystem operations.
Now, this weekend, the ECB has issued a statement that would be barely understandable to most people but that the Financial Times have interpreted, probably correctly and based on briefings, as opening up the possibility of taking action against the “addict banks.”
Digging into the announcement, one can see why there may be cause for concern among the ECB-dependent banks. The relevant document that has been approved is Guideline ECB/2010/13, which is amending Guideline ECB/2000/7. Checking out what exactly is being changed requires a tedious checking over and back between the two documents and I can’t claim to have spent all of my Sunday on this. However, a couple of changes stand out as being potentially very serious for ECB-dependent banks.
Section 2.4 of the original 2000 guidelines could already be invoked as a reason to cut off funding for certain banks because it says that “the Eurosystem may suspend or exclude counterparties’ access to monetary policy instruments on the grounds of prudence.” (Counterparties means banks borrowing from the ECB.) The new guidelines supplement this with the potentially ominous “Finally, on the grounds of prudence, the Eurosystem may also reject assets, limit the use of assets or apply supplementary haircuts to assets submitted as collateral in Eurosystem credit operations by specific counterparties.”
A bit more clarity about the prudence business is provided later on in the new guidelines. Box 7, under the heading “Risk Control Measures” previously contained the line “The Eurosystem may exclude certain assets from use in its monetary policy operations.” This has now been augmented to include “Such exclusion may also be applied to specific counterparties, in particular if the credit quality of the counterparties appears to exhibit a high correlation with the credit quality of the collateral submitted by the counterparty.”
Since the Irish banks are submitting NAMA bonds as collateral to the ECB, as well as securitised loan books formed from turning large amounts of Irish loans into marketable securities, it could be argued that they fit the bill for being counterparties who are offering up collateral whose credit risk is highly correlated with the credit risk of the counterparty itself. As such, they could be forced to reduce their borrowings from ECB if it is decided to exclude some of the collateral that they are offering up to get access to ECB funds.
This may just be tough talk from the ECB. But if it’s not, then it raises the very serious question of what exactly needs to be done to allow the Irish banks to access funds on the international bond markets.