More capital and liquidity for the banks

The Financial District in Frankfurt am Main. The Euro sign stands in front of the European Central Bank. (EP Audiovisual Services).

Benoît Cœuré, a Member of the Executive Board of the European Central Bank, after taking care of banks’ recapitalisation needs last week using taxpayers money, embarked yesterday in a new adventure to convince us all, that central banks with their unlimited liquidity supply to banks, do not help them exploit hard-working labourers and small and medium businessmen. It seems that, with one speech each week this central banker has undertaken the role of the industry’s champion.

When it came to the moral hazard, where the banks are using ECB’s liquidity as a substitute of capital, he had very little to say. Bank shareholders and managers are actually free to use any kind of other people’s money for their own risky placements. There are no rules and effectively imposed audit tools to dive deep into their off-balance sheet accounts, held somewhere in offshore paradise. In this way banks do not distinguish between their own capital, their customers’ deposits, their subordinated debt and ECB’s liquidity. They are all good to finance their own ‘investments’ in every possible or impossible market.

Profitable for whom?

Time has proved that when those bets are profitable shareholders, managers and bank dealers pocket the usually unbelievable gains. If the bets turn sour the banks ask the governments for new capital and the central banks for more liquidity. This is true not only in crisis times. It is now considered as standard practice. Cœuré repels the possibility that central bank liquidity is being considered by investment bankers as their own capital.

In addition, he forgot to comment on the character of the Long Term Refinancing Operations of ECB, under which all 6000 Eurozone banks got unlimited three years liquidity loans at near zero interest rate cost. If this is not a capital injection then what is it? But it’s not only that. With this kind of capital resembling loans, banks felt free to use it for their own risky bets. It was a revelation what followed last year, after the ECB accorded such loans to all Eurozone banks, under two LTROs amounting to more than €1 trillion.

Keep the liquidity

Out of that money not one euro was passed to the real economy as new loan to SMEs. Actually the volume of loans to households and businesses was reduced. It was obvious that the banks used the LTROs to finance their own unhealthy bets. Their oversized balance sheets and the fact that those placements are made up mainly of risky bets, didn’t allow them to increase their loans to the real economy. Now they have started returning parts of that €1tn to ECB because they are so exposed (to say the least) to unhealthy placement that they have to cut down both the asset and the liabilities sides in their balance sheets.

Cœuré says clearly that ECB should act as a lender of last resort to banks in all circumstances. This is a logical assertion because the system needs an anchor. The problem is that the banks are almost completely free to do whatever they want with ECB’s money. Even the threat of a resolution doesn’t work. It’s out of question that a ‘systemic’ bank may face such a dreadful prospect. Only if this is a lender in a remote corner of Eurozone, like Cyprus, it is possible to resolve a bank. Not to forget that at the time when the Eurogroup decided to liquidate the two Cypriot banks, the Netherlands took the green light to rescue with taxpayers’ money a major financial Dutch group.

In short, Cœuré failed to observe that all systemic banks and many more have the benefit of a double guarantee. They know that they will be recapitalised if they need it in case of a crisis, and also they will have unlimited quantities of freshly printed money, to use at their discretion as if it was their own capital. Presently, the long discussion about the capital needs of Eurozone banks has frozen the imposition of any serious restrictions and rules.

For one thing, EU Regulations about capital adequacy and liquidity buffers are relaxed enough and will be applied after some years. On top of that, major banks will be always able to overcome such restrictions given the fact that they are free to operate all over the world.

In this way this member of the Executive Board of ECB takes good care of both the capital and the liquidity needs of banks.