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Reply #33: One Bank to Rule Them All By Mike Whitney [View All]

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Demeter Donating Member (1000+ posts) Send PM | Profile | Ignore Tue Dec-06-11 07:12 AM
Response to Reply #31
33. One Bank to Rule Them All By Mike Whitney
Edited on Tue Dec-06-11 07:13 AM by Demeter

On Wednesday, the Federal Reserve and the central banks of Canada, England, Japan, Switzerland, and Europe launched a coordinated monetary intervention aimed at easing interbank lending in the eurozone. While the emergency action sent stocks into the stratosphere, it did not relieve tensions in the markets or increase trust between the banks. In fact, on Thursday, banks stashed 313.763 billion at the European Central Banks overnight deposit facility, a new high for the year. Banks leave money with the ECB overnight when they are too worried about counterparty risk to lend to other banks. At the same time, the amount of money that EU banks are borrowing from the ECB, continues to rise, indicating their inability to raise money in the capital markets. These signs of growing distress show that the hoopla surrounding the central bank action are unwarranted. Conditions in the eurozone continue to deteriorate.

Many of Europes biggest banks are loaded with sovereign bonds that have lost much of their value since the crisis began. Crashing collateral values have gummed up the funding apparatus and cast doubt on the solvency of the EU banking system. This same type of thing thing happened in July 2007, when 2 Bear Stearns hedge funds defaulted. The incident sent shockwaves through Wall Street as trillions of dollars in dodgy mortgage-backed securities (MBS) were downgraded leaving most of the countrys biggest banks underwater. The Lehman implosion merely exposed the extent of the damage. The capital-depleted system was bankrupt and had to be rebuilt with trillions in loans, subsidies and bailouts from the Fed and Congress. (TARP) Europe now faces a similar crisis.

While Wednesdays CB intervention provides EU banks with cheaper access to dollar funding, it doesnt address any of the existential problems facing the eurozone. In fact, its effects should be quite small. Heres how Paul Krugman summed it up on his blog Conscience of a Liberal:

So this looks to me like a non-event. Yet markets went wild. Are they taking this as a signal that substantive actions like the ECB finally doing what has to be done are just around the corner? Are they misunderstanding the policy? Was this cheap talk that nonetheless moved us to the good equilibrium? (If so, not enough: Italian bonds still at more than 7 percent) (New York Times)

The Guardian provides an interesting graph that explains why the Fed acted:

EU banks are in the throes of a vicious credit crunch which is deepening the debt crisis and hurtling the EZ towards a long-term slump. Bank funding costs are rising while the value of collateral (sovereign bonds) continues to fall. At the same time, the European Banking Authority (EBA) has ordered banks to increase their core-capital to a minimum 9 percent, even though credit markets are in turmoil and balance sheets are dripping red. All of this is leading to a sharp cutback in lending which will show up in slower growth and higher unemployment. This is from Forbes:

Bank lending standards have tightened, Barclays suggests, and debt funding costs have risen sharply, both for financials and non-financials. Historically, such a tightening of lending standards has presaged economic weakness and a consequent rise in high yield corporate credit default rates, typically with a 12-month lag, wrote the analysts. (European Credit Crunch Starting As Crisis Spreads To Private Sector, Forbes)

The only way for banks to raise capital in the current environment is by shrinking their balance sheets which means that they will be forced to dump their assets on the market pushing prices down further. Heres an excerpt from an article in International Financing Review:

Banks are feeling pain on both sides of the balance sheet, said Alberto Gallo, head of European credit strategy at RBS. On the one side you have a funding squeeze with banks unable to raise cash in the capital markets. At the same time, many of the assets they hold are deteriorating in quality.

Banks need to reduce their balance sheets as much as 5trn in assets over the next three years or so, he added. The problem is that there just arent enough buyers. Most banks will be forced to hold on to much of this stuff to maturity, which will affect their ability to lend and impact on the real economy.

People involved in asset sale talks say price is the major sticking point. Lenders want only to sell higher-quality assets near to par value so as to avoid huge write-downs, which would erode capital further. By contrast, potential buyers want high-yielding investments and are offering only knock-down prices.(European banks asset sales face disastrous failure, IFR)

So, EU banks are on the ropes. Their asset base is wasting away with every downgrade and they no longer have the option of raising capital through the conventional means, by issuing equity or increasing deposits. Unless the ECB launches an emergency rescue effort, its only a matter of time before one of the larger banks defaults and the dominoes start to tumble through the financial system.

So, how would a major bank failure in the EZ effect things in the US? Thats a question the Economist answers in a recent article. Heres a clip:

Financial markets are far more integrated than product markets, and they acted as a conduit of contagion from the American banking system to banks abroad. Falling asset prices in one place impact the balance sheet of leveraged institutions in another place. This transmits the crisis, which then impacts the real economy.

Should trouble in the euro zone lead the European banking system to freeze up entirely, the crisis will quickly be transmitted to Americas economy; credit will dry up to American firms, and the real economy will lurch downward. That is the big risk to most large, non-European economies. Trade accounts for too little activity in big economies for a European collapse to be too disruptive; the financial spillover, on the other hand, will be dreadful. Where the Federal Reserve could do quite a lot to shield the American economy from the drop in European demand stemming from a deep euro-zone recession, it is more difficult for the central bank to provide insulation against an all-out banking panic. (US will not decouple from eurozone, The Economist)

So, what should be done?

The simplest remedyas most of the experts have notedwould be for the ECB to step in as lender of last resort and buy enough Italian and Spanish debt to keep interest rates at a manageable level. That, in turn, would put a floor under the value of the assets on banks balance sheets, so they wouldnt be dipping deeper into the red. And this is exactly what new ECB chief Mario Draghiformer managing director of Goldman Sachs intends to do, as soon as he creates a big enough crisis for him to impose the terms of the settlement on the member states. Thats the real goal, to reshape the EZ so it best fits the objectives of finance capital. So what does Draghi want? He wants his ministers to control national budgets, he wants more money diverted from working people into an over-bloated financial system, he wants his own appointments in positions of power (iecheck Italy and Greeces new technocratic governments), he wants to dictate economic policy, he wants to abolish the welfare state and the social safety net, he wants to keep Europe in a permanent state of Depression (austerity measures) so more of the EZs wealth flows to the 1 percent at the top. Heres an excerpt from a Thursday article on Dow Jones:

European Central Bank President Mario Draghi called Thursday for a recommitment in the euro zone to sound fiscal policy. Speaking to the European Parliament, the new president said the euro zone needed a new fiscal compact.

The compact would be a fundamental restatement of the fiscal rules together with the mutual fiscal commitments that euro area governments have made, Draghi said. a fiscal compact would enshrine the essence of fiscal rules and the government commitments taken so far, and ensure that the latter become fully credible, individually and collectively. (ECBs Draghi Calls For New Euro Zone Fiscal Compact, Dow Jones)

And what will this new fiscal compact look like? Well, its probably going to look a lot like the German plan for enforcing the EUs Stability and Growth Pact. Heres a summary from the Financial Times blogsite:

1. All planned deficits in excess of 3 per cent of GDP should require unanimous approval across euro area governments. All planned deficits in excess of a countrys medium term objective (but less than 3 per cent of GDP) have to be approved by qualified majority.

2. A commitment to correct past fiscal slippages with essentially no room for discretion: countries to adopt national debt brake rules.

3. A country requiring assistance under the ESM (note: European Stability Mechanisma permanent bailout facility) is placed in financial receivership if its adjustment programme fails to remain on track, with the planning and execution of budgets requiring the agreement of the appointed financial receiver. This is necessary where countries have no political consensus in support of reforms to mitigate risks of countries failing to comply or defaulting.

4. Automatic fines and sanctions upon breach of the 3 per cent deficit limit.

5. All national countries introduce an independent budget office to produce budgetary forecasts, create an independent entity at European level to monitor national policies and administer ESM programmes. (Europes grand bargain, FT Alphaville)

Take a good look: This is the future of European democracy; one country after another stuffed into a fiscal straitjacket while their public assets are privatized, their unions are crushed, and their sovereignty is surrendered to unelected bankers and eurocrats. Europe is being handed over to big finance on a silver platter. This isnt a crisis; its blackmail.
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  -STOCK MARKET WATCH, Tuesday, December 6, 2011 Pale Blue Dot  Dec-06-11 05:55 AM   #0 
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  - Fluctuation or flatulence? n/t  fasttense   Dec-06-11 08:01 AM   #51 
     - Now THERE'S a Definition of Bubble-Blowing I hadn't Considered!  Demeter   Dec-06-11 08:04 AM   #54 
  - it's morning isn't it?  xchrom   Dec-06-11 06:04 AM   #4 
  - It is somewhere.....  Pachamama   Dec-06-11 07:48 AM   #45 
  - U.S. is among developed economies with highest income inequality  xchrom   Dec-06-11 06:07 AM   #5 
  - Here's Another Not-So-Funny  Demeter   Dec-06-11 06:14 AM   #6 
  - +1  xchrom   Dec-06-11 06:17 AM   #8 
  - Many Americans already finished holiday shopping  xchrom   Dec-06-11 06:14 AM   #7 
  - The rest are waiting for After Xmas Sales  Demeter   Dec-06-11 06:18 AM   #9 
  - or doing without  DemReadingDU   Dec-06-11 07:33 AM   #40 
     - Doing without. Christmas like health care....  Hotler   Dec-06-11 10:20 AM   #61 
  - Xmas shopping became easy when my dad died  Warpy   Dec-06-11 01:00 PM   #68 
  - Gavyn Davies: Germany is winning the debate on fiscal union  Demeter   Dec-06-11 06:21 AM   #10 
  - under sarkozy -- the french got downgraded -- kinda hard to bring to  xchrom   Dec-06-11 06:24 AM   #13 
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  - TURN OFF THE JOB-KILLING MACHINERY, FIRST!  Demeter   Dec-06-11 06:28 AM   #16 
     - AMEN!!!!!!  Tansy_Gold   Dec-06-11 06:57 AM   #28 
     - +++  DemReadingDU   Dec-06-11 07:34 AM   #42 
  - After MF Global: How to protect customers cash  Demeter   Dec-06-11 06:23 AM   #12 
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        - Corzine Tries to Delay Congressional Hearings on Firm's Collapse  DemReadingDU   Dec-06-11 08:00 AM   #50 
           - Good thing he's a nominal Democrat  Demeter   Dec-06-11 08:03 AM   #53 
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              - Well played. eom.  Hotler   Dec-06-11 11:10 AM   #64 
              - Uh, not to be picky, but that would be your N-I-N-T-H grade English teacher.  Tansy_Gold   Dec-06-11 02:42 PM   #69 
                 - It was English....  AnneD   Dec-06-11 03:29 PM   #70 
           - Why is Corzine not in jail waiting to testify before a Grand Jury or,  Hotler   Dec-06-11 10:49 AM   #62 
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                 - We could keep Bud White busy. eom.  Hotler   Dec-06-11 04:08 PM   #71 
                    - I'll bite; Who is Bud White?  Demeter   Dec-06-11 04:53 PM   #74 
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  - Chaoda joins junk heap  xchrom   Dec-06-11 06:57 AM   #27 
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  - When the Banksters Finally Go On Trial, Let Us Rework This Quote  Demeter   Dec-06-11 06:43 AM   #22 
  - Iceland's special prosecutor arrests former Glitnir CEO  Demeter   Dec-06-11 07:05 AM   #31 
  - One Bank to Rule Them All By Mike Whitney  Demeter   Dec-06-11 07:12 AM   #33 
  - YES! n/t  Hotler   Dec-06-11 11:15 AM   #65 
  - europe: Neither Paris nor Berlin, but Frankfurt...  xchrom   Dec-06-11 06:44 AM   #23 
  - Ireland One year after bailout, a bitter budget  xchrom   Dec-06-11 06:47 AM   #24 
  - German Factory Orders Surge on Rebound in Export Demand: Economy  xchrom   Dec-06-11 07:12 AM   #34 
  - More evidence emerges of renewed contraction in Spanish economy  xchrom   Dec-06-11 07:29 AM   #39 
  - EU Leaders Attack Standard and Poor's After Ratings Warning  xchrom   Dec-06-11 07:36 AM   #43 
  - U.S. seen only partly backing global accounting rules  Demeter   Dec-06-11 06:49 AM   #25 
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  - Wis. firm reverses 1-way flow of shoes from Asia  xchrom   Dec-06-11 07:15 AM   #35 
  - Just one of the reasons I go barefoot as much as possible n/t  Tansy_Gold   Dec-06-11 07:26 AM   #38 
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     - AnneD - you are a kind and caring person  DemReadingDU   Dec-06-11 08:29 PM   #79 
        - I always say that about....  AnneD   Dec-07-11 09:24 AM   #81 
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  - The Decline and Fall of Just About Everyone By Pepe Escobar  Demeter   Dec-06-11 07:57 AM   #49 
  - Time for this thought...  AnneD   Dec-06-11 10:03 AM   #60 
  - Will a European bank fail or  Hotler   Dec-06-11 04:14 PM   #72 
  - k&r n/t  Hotler   Dec-06-11 11:46 AM   #66 
  - We should start a pool. Guess the date or time frame that  Hotler   Dec-06-11 04:17 PM   #73 
     - I want Goldman to Fail  Demeter   Dec-06-11 04:59 PM   #75 
        - I know you do.  Hotler   Dec-06-11 06:29 PM   #77 
        - "The bigger they are  Demeter   Dec-06-11 06:52 PM   #78 
        - metoo metoo metoo metoo metoo metoo!!!!!  Tansy_Gold   Dec-06-11 09:21 PM   #80 

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