| Coordinated central bank action boosts market sentiment |
| 30.11.11 20:24 | |
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The Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank agreed today to lower the interest rate on dollar liquidity swap lines by 50bp so that the new rate will be the U.S. dollar overnight index swap (OIS) rate plus 50bp. Moreover, they extended these swap arrangements to February 1, 2013. In response, all major currencies appreciated sharply against the dollar and global stock prices surged, especially for European banks. In our view, this joint action should ease strains in financial markets, especially for dollar funding. The change in the add-on charge from +100bp to +50bp will lower the overall cost of funding in dollars at the ECB (note that the decision to cut the rate is one taken by the Fed, rather than by the ECB). This, coupled with a decline in the initial margin to be provided in such operations at the ECB from 20% to 12%, should definitely make it more attractive, all else equal, for European banks to cover their funding needs in dollars at the ECB. Of course there remains a certain stigma for banks borrowing at the ECB (even if the borrowing is anonymous), and this may limit the total amounts that will be borrowed in the $ operations still going forward. Until now, borrowing in $ at the ECB has been marginal, both in the weekly and in the three-month operations conducted (in total, there is less than $2bn of such operations outstanding, split between a handful of banks. Naturally, the change in the cost, and in the initial margin, will tighten the cross-currency bases back: the coordinated action announced today comes after these bases have widened sharply in the past month to levels similar to those reached in late 2008. For a U.S. perspective, see Turning the corner. In the same vein, it is very possible that the ECB will announce that non euro collateral will once again be eligible in ECB operations - some non euro collateral (denominated in USD, GBP and JPY) was made eligible a few days after the initial FX swaps lines were put in place in 2008 and remained eligible until the end of 2009. This collateral attracted an extra 8% add-on haircut at the time. This should be useful for some banks who have been cut off from $ funding, and which have had to rely on euro ECB funding, or on ELA funding. We view today's agreement an important show of international coordination and it should also alleviate fears of a breakdown in cooperation emphasized by the resurfacing of press speculation of currency wars. It may also signal more internationally coordinated action to support euro area sovereigns under market stress with the involvement of the IMF. For next week's ECB meeting we continue to expect a rate cut and additional non-standard measures to address medium-term funding strains on euro area banks. source: BarCap |
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