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Central Banking 101: the EONIA heartbeat

by Migeru Sat Feb 26th, 2011 at 02:57:31 PM EST

The reaction to my recent column on ECB liquidity management was generally one of puzzlement as the topic appears quite arcane, and due to its venue and audience the piece didn't lend itself to being particularly pedagogical though I did try to at least expand all acronyms once and to explain as much as possible.

Because I still think the issue is important (basically, exposing the mismanagement of Europe's economic affairs), and because I don't think it's that difficult either (if people don't get what I'm saying it, it has to be my fault), I have decided to start a series of pedagogical diaries on banking. And why would people want to learn about banking anyway? (other than how to burn one, that is) It so happens that banking is central to the Second Great Contraction (to borrow a term from Reinhart and Rogoff) that started in the summer of 2007 and still hasn't run its course, and which threatens to take no less than the Euro with it.

In this first instalment, I'll discuss bank reserves in the Eurosystem, which are intimately linked to the argument of my column last week.


The EONIA heartbeat

Interesting comment threads did develop about my column, in particular one started by afew who broached the issue of overnight interbank lending rates, which were not part of my original argument. Trying to elucidate what was going on, I came up with the simile of the EONIA heartbeat as the chart of interbank rates looked, to me at least, rather like an electrocardiogram:

This is a chart of interest rates for overnight lending among Eurozone banks. Overnight lending means that one bank borrows money from another at the close of business one day, and pays it back at the opening the following morning. This is part of the normal operations of the payment and clearing system. Basically, when anyone in the economy uses banks as payment intermediaries (by using cheques, cash cards or direct transfers from one bank account to another), two banks are usually involved, one for the payer and one for the payee. Because the banks are creditworthy, people accept cheques, plastic or a bank transfer record as proof of payment rather than demanding currency. But these means of payment result just in annotations in accounting ledgers (modernly, just in moving some bits around in some computers) and, if the bank of the payee is different from the bank of the payer, the payer's bank owes some money to the payee's bank. Now, banks sometimes exchange money in armored vans, but until that happens there's a net balance, which changes each day. And it is on this net balance at the end of each day that banks charge each other an overnight rate. This rate, for the Eurozone, is called EONIA:

Eonia® (Euro OverNight Index Average) is an effective overnight rate computed as a weighted average of all overnight unsecured lending transactions in the interbank market, initiated within the euro area by the contributing panel banks.
Note that EONIA is a rate of actual transactions that took place the night before, not a market quote that may have no money behind it.

Central Bank reserves

Why does EONIA display that monthly heatbeat pattern? The answer is the Central Bank. Banks do, in fact, have accounts at their Central Bank just like any firm or individual has an account at a regular bank, so they can settle debts among themselves by telling the Central Bank to transfer the requisite amounts between the commercial banks' accounts at the Central Bank. For this purpose, the European Central Bank requires banks to hold a minimum balance, called "reserves". For the Eurosystem, this is 2% of (most) liabilities, minus a lump sum allowance for small banks, and the balance is remunerated.
The European Central Bank (ECB) requires credit institutions to hold compulsory deposits on accounts with the national central banks (NCBs): these are called "minimum" or "required" reserves. The amount of required reserves to be held by each institution is determined by its reserve base.

In order to determine an institution's reserve requirement, the reserve base is multiplied by the reserve ratio. The ECB applies a uniform positive reserve ratio to most of the balance sheet items included in the reserve base. This reserve ratio was set at 2 % at the start of Stage Three of European Economic and Monetary Union (EMU). As noted above, the reserve requirement for each individual institution is calculated by applying the reserve ratio to the reserve base. Institutions can deduct a uniform lump-sum allowance from their reserve requirement. Since the start of Stage Three of EMU they have been entitled to deduct € 100.000. This allowance is designed to reduce the administrative costs arising from managing very small reserve requirements.

...

The Eurosystem aims to ensure that the minimum reserve system neither puts a burden on the banking system in the euro area nor hinders the efficient allocation of resources. For this reason, credit institutions' holdings of required reserves are remunerated. The remuneration corresponds to the marginal rate (weighted according to the number of calendar days) of the main refinancing operations during the reserve maintenance period. This rate is therefore very close to the short-term money market rates.

(source: Bundesbank)

And the reserve management causes these monthly spikes due to the existence of reserve maintenance periods. Basically, the minimum balance banks are required to keep in their deposit accounts is not a daily requirement (this could be costly and stressful to manage), but an average requirement over a so-called reserve maintenance period. The chart above shows that the EONIA spikes on the last day of a reserve period and goes back down on the next day, which is the start of a new period. This is so because banks which happen to have a deficit of average reserves over a period borrow them from other banks which happen to have accumulated an excess of reserves, and there is a higher volume of interbank lending on that one day.

Central Bank overnight rates

In case a bank fails to maintain its reserves, the ECB will lend to them an unlimited amount (provided the bank can pledge assets of sufficient quality as collateral) at a penalty rate. This is called the Marginal Lending Facility and the rate is represented in red in my chart. Currently it's at 1.75%. This sets an upper bound for EONIA as, were a bank unable to borrow from another bank overnight at a cheaper rate, they can always make up for their reserve shortfall by borrowing from the ECB.

There is also a green rate on the chart: that is the rate of the Deposit Facility, which is the rate that the ECB pays for excess reserves held at the ECB and is currently at 0.25%. Generally, a bank will rather lend to another bank at EONIA than park the money as excess reserves at the ECB, as long as the other bank pays more than the ECB's deposit rate. But if no other bank will borrow above the deposit rate, any excess cash will end up at the ECB collecting the deposit rate.

The EONIA heart develops tachycardia

So far, so good. Now let's look at what the EONIA has been doing lately (the attentive reader will have noticed my heartbeat chart doesn't extend past June 2010). I call this EONIA tachycardia at Paul Spencer's suggestion in afew's thread:

This doesn't look too healthy. EONIA is shooting up to higher and higher levels at the end of each maintenance period, and staying elevated for weeks on end. This is an indication that interbank liquidity is very tight, in fact as tight on any given day as would be typical for the rollover day from one reserve maintenance period to the next. Curiously, however, it's not just a matter of EONIA going higher. For some time each maintenance period, overnight lending drops back near the deposit rate. So the widening range of oscillation of EONIA is the salient feature. We'll return to this later.

I have marked the date of May 10, 2010, which is when the ECB started buying sovereign Euro bonds (SMP stands for "Securities Market Programme", the ECB's obscure name for these purchases) and "sterilizing those purchases". As argued in my column, those purchases have no monetary impact, but the "sterilization" (drawing cash from the system in an amount equal to the bond purchases) is causing tight liquidity conditions in the interbank market. So my claim was basically that the EONIA tachycardia is evidence that the ECB's "sterilization" is a mistake.

The repo rate

At this point, one might like to take a longer view. After all, the "heartbeat" spans a period where the banking system was still recovering from the worst of the crisis, so it could be an unnatural pattern. Here's the history of EONIA since the beginning of the Euro:

Going back in time, we find that for most of the decade the EONIA displayed something like the heartbeat pattern, but it could have downward spikes as well as upward ones. Also, the EONIA baseline was not slightly above the deposit rate, but slightly above a different rate I call the repo rate and plot in orange. This rate is set by the ECB halfway between the deposit and marginal overnight rates. The repo rate didn't appear in the previous charts of overnight rates because it's a rate for weekly lending. The ECB mostly manages liquidity through it so-called "Main Refinancing Operations" (MRO) - the name implies that the ECB does intend to do most of the liquidity management through this channel. The MRO is a weekly auction of one-week liquidity in the form of repos, that is, collateralised loans. It is what the US Fed calls the discount window. This means that the ECB takes bids from banks for one-week loans for which the banks are required to post collateral (the same quality of "eligible collateral" behind the overnight Marginal Lending Facility). Normally interest rates for longer times are higher, so the fact that the ECB's daily lending is more expensive than its weekly lending is basically the ECB saying to banks "you can come to me for cash on Thursdays - on the rest of the week it's more expensive".

The transition

The "repo rate" baseline of EONIA did oscillate with the business cycle. To better illustrate the heartbeat pattern around it, JakeS suggested plotting the spread of interest rates with respect to the repo rate. It becomes more apparent how, towards the end of the series, the EONIA baseline drops from the repo rate to the deposit rate:

The current financial crisis kicked off in mid-2007, when the EONIA baseline becomes noticeably noisier than it was previously. Then, on October 15, 2008 (marked by a vertical line on the chart) the baseline drop from repo to deposit takes place. At that point the ECB switched its "Main Refinancing Operations" (MRO) from "variable rate, fixed tender" to "fixed rate, open tender". An opposite change took place on June 28, 2000 (also marked). Between both dates, the ECB was giving an upper bound to how much interest banks could bid to pay, and would allocate an amount of loans adding up to a given "fixed tender". Outside this time span, and in particular as a way to prevent a banking sector meltdown in the aftermath of the failure of Lehman Brothers, Dexia, Fortis, and Iceland, the ECB has been offering unlimited one-week liquidity (on eligible collateral) at a fixed rate.

The change from fixed tender at an auction rate to unlimited liquidity at a fixed rate in the MRO coincides with the start of a precipitous drop in the absolute level of the ECB's reference rates - perhaps overlaying both charts helps to visualize what's going on.

It can be seen that, simultaneously with the onset of unlimited liquidity, the baseline of interbank interest rates dropped below the ECB repo rate. During the steep drop of interest rates in late 2008-early 2009, each time the ECB lowered rates the EONIA dropped like a stone to some point between the new deposit and repo rates, whereas previously it would have stayed slightly above the repo rate. One month after the ECB lowered rates for the last time, EONIA settled into a heartbeat pattern just slightly above the 0.25% deposit rate.

Some speculation

Again, all through the Euro's history and up to the introduction of unlimited liquidity in late 2008, EONIA was around the repo rate, and has been just above the deposit rate since then. This has various implications. For instance, the Bundesbank explanation of minimum reserves quoted above is now incorrect in one minor point
credit institutions' holdings of required reserves are remunerated. The remuneration corresponds to the marginal rate (weighted according to the number of calendar days) of the main refinancing operations during the reserve maintenance period. This rate is therefore very close to the short-term money market rates.
Required reserves are remunerated at the MRO (repo) rate, which is now not "very close to the short-term money market rates", since the latter have dropped to near the deposit rate.

Another implication is that banks are covering all their liquidity needs at the MRO rather than borrowing from each other at EONIA, which is strange given that EONIA is so much lower. This might mean that the amount actually offered at EONIA is relatively small, so while banks are receiving liquidity from the ECB they're actually hoarding it. A possible mechanism for EONIA to become decoupled form the MRO is a segmentation of the banking sector into (at least) two groups. One group of banks, the good old boys, are trusted by other banks and so borrow cheaply at EONIA (here's where we recall the observation that even under the heightened interbank volatility conditions of late the EONIA rate manages to touch back down near the deposit rate baseline some days - and remember also that EONIA is a weighted average of actual transactions). The banks other banks don't trust are financing themselves at the repo and marginal rates (that is, from the Central Bank, currently at 1% weekly and 1.75% daily, and on good collateral). The banks most everyone trusts are financing themselves at the repo and EONIA rates (1% weekly at the ECB on good collateral, and daily at the low rate they charge each other, without collateral). However, the volume available for EONIA lending among the trusted banks is dwindling because they are putting it in "sterilising" deposits at the ECB.

If the decoupling of EONIA and repo is indeed explained by a segmentation of the banking sector into "reputable" and "disreputable" banks with/without access to the interbank market, it's quite likely that another banking crisis is brewing in the Eurozone. The widening range and increasing volatility of EONIA does not bode well, and if this is indeed caused directly by the ECB withdrawing liquidity, the ECB's tight monetary policy cannot be described as anything less than reckless.

Display:


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 03:08:43 PM EST
Excellent, forging ahead with this - in my view - necessary elucidation of central bank mechanisms. Perfectly in line with your current sig. Jargon is the familiar flinging around of code words between those who are (supposedly at least) in the know. This is explanation (even if not necessarily easy to follow).
by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 06:33:56 AM EST
[ Parent ]
Banking does go a bit from our day to day experiences of economy, in particular with money being created and all. So some brain exercise should be expected even with a good explanation.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se
by A swedish kind of death on Sun Feb 27th, 2011 at 07:13:06 AM EST
[ Parent ]
If this series of diaries is as good as I expect (not that I am any judge of economic theory or practice), I suggest you think about it also in terms of a report that could be sent to those who are to be obeyed. A sort of primer.

This may be a project that ET could work on?

You can't be me, I'm taken

by Sven Triloqvist on Sat Feb 26th, 2011 at 04:19:27 PM EST
Is it sufficiently understandable, in your opinion?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 04:23:53 PM EST
[ Parent ]
It is understandable (to me) in the context of ET. I've been reading the different views for some years now. But I am not clear that this context is evident to a reader outside. So You maybe have to back up a couple of steps.

But I do think you would be doing a great service to European society if this is fine tuned for an audience who will know the basic terms, but may not be inspired by the vital arcane bits. So I think you have to draw them into the argument.

It reminds of Richard Feyman's need to hear an example of a theory to see whether it worked in a particular 'instance'.

And if you want to show patterns, then graphics can be more helpful than arrays.

I don't think you can avoid a certain element of the arcane, (It's a tricky subject) but it would help if you had sub-heads to guide the reader through the argument.

You can't be me, I'm taken

by Sven Triloqvist on Sat Feb 26th, 2011 at 04:47:59 PM EST
[ Parent ]
I thought I was starting from the very beginning. Can you point out specific places where the language or the argument is not clear?

I'll break up into subheadings.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 04:50:38 PM EST
[ Parent ]
My advice would be to go ahead with the series, addressing it to ET. Then we can see how best to improve it.

What people (generally,  democratically) need is an alternative ABC of finance. It affects all of us, few understand. I think it's worth doing. But it would be a different effort if you are trying to influence the ECB.

You can't be me, I'm taken

by Sven Triloqvist on Sat Feb 26th, 2011 at 05:02:07 PM EST
[ Parent ]
I'm not trying to influence the ECB. Last week's column is an example of what someone like Wolfgang Münchau finds "terrific" while a number of ETers claim it's over their head. That was maybe written to influence expert opinion. This is to actually explain what the heck I'm talking about.

Being blunt, I have to admit this is as much as I can "dumb it down" so if it has to be taken further it can't be me to do it. Not to compare myself with Feynman, but his "Lectures" aren't exactly easy reading nor apparently an effective textbook.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 05:10:47 PM EST
[ Parent ]
Three elements to dumbing down:

Defining entities and players
Defining relationships
Defining a simple human-readable take-away conclusion for people who can't follow the rest

The problem with the original was that it was impossible to follow unless you already knew what EONIA was, why it matters, and to whom. And there was no take-away.

Someone like Munchau would know the background. Most people wouldn't.

I think this version does a very readable job of explaining the background.

My only thought about the take-away is that it would be interesting to see if something similar is happening in the US.

If it is, you have the basis of a very viable news story, and I'd consider pitching it to the FT.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Sat Feb 26th, 2011 at 06:18:38 PM EST
[ Parent ]
Agreed. But I think all communication with a non-captive audience needs a preamble beyond the standard whowhatwhenwhereandhow. What is needed is a stated benefit or reason for people to exercise their brains and read the piece. A context that applies to their lives.

Basically the conclusion, the takeaway, needs to be foreshadowed.

The reason why financial crime has proliferated and now skews the economies of the W*stern world, is that most, even intelligent, people (including journalists, although intelligent journalist may be an oxymoron) accept the obfuscation of the Lords of Profit that finance is very very complicated, and that only the elite understands it, and for managing this 'complexity', they deserve all the treasure they amass. Bullshit.

You can't be me, I'm taken

by Sven Triloqvist on Sun Feb 27th, 2011 at 04:58:03 AM EST
[ Parent ]
I don't have a takeaway - this is research.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 05:15:21 AM EST
[ Parent ]
And as such it is clear enough for the interested to follow and for the knowledgeable to discuss. The takeaway comes later when the summary for policymakers is written, but that comes after the research.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se
by A swedish kind of death on Sun Feb 27th, 2011 at 07:08:00 AM EST
[ Parent ]
So far we still have two outstanding puzzles. One, how did the ECB manage to stabilize the interbank market in mid-2009, and what happened in mid-2010 to break that; and two, why did the interbank rate decouple from the policy rate.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 07:17:46 AM EST
[ Parent ]
It is understandable (to me) in the context of ET.

Apparantly last week's piece was not (to most). Is this an improvement?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 04:51:27 PM EST
[ Parent ]
I find the first part quite lucid and from the chart of EONIA since the inception of the Eruo it is sufficiently meaty that I need to chew on it a while longer before I can say, but the first part is very informative and at a good level.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Feb 26th, 2011 at 04:59:07 PM EST
[ Parent ]
Unfortunately, I am in the midst of some volunteer work and cannot now devote the attention I would like to this diary.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Feb 26th, 2011 at 05:01:02 PM EST
[ Parent ]
That's because the meaty part is a mixture of speculation and explanation, and not very well written at that. I'm thinking of changing it.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 05:13:18 PM EST
[ Parent ]
Be that as it may, after having the time to read the whole diary again and to go over the last part twice I believe I understand what you have said. Now, on to the rest of the comment thread.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Feb 28th, 2011 at 09:47:49 PM EST
[ Parent ]
You have read a much improved version already.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:15:10 AM EST
[ Parent ]
I followed all of it. I am really not a banker. :)
by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 06:35:14 AM EST
[ Parent ]
But do you play one on TV?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 07:00:23 AM EST
[ Parent ]
On TV I'm a rockstar. Well, air guitar champion. Well, not really on TV... :{
by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 08:00:43 AM EST
[ Parent ]
I think the EONIA charts would be easier to read if they showed the EONIA's deviation from the MRO (the "headline rate"), rather than the absolute rate. You'll end up with some artifacts at the points where the MRO changes rapidly, but I still think it'd be a net gain in clarity.

It can be seen that unlimited liquidity led interbank interest rates to plummet. Before unlimited liquidity started, the norm was for the EONIA rate to remain slightly above the repo rate, whereas under unlimited liquidity it has dropped to slightly above the deposit rate.

I don't understand what mechanism you're postulating for this connection. How does allowing unlimited repo volume drop the interbank rate below the repo rate? I could understand it if it were unlimited bond purchases, since the banks are hoarding cash. But that's not what the ECB is doing.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Feb 26th, 2011 at 04:55:50 PM EST
Admittedly, it's a case of post hoc ergo propter hoc.

I'm just observing the EONIA drops below repo precisely after the ECB started providing unlimited liquidity.

I have no mechanism. I don't manage liquidity for a bank, so I have to imagine a mechanism that explains why EONIA could be decoupled from repo.

The only thing I can think of is banking sector segmentation - if some banks are completely shut out of EONIA they don't contribute to raising the EONIA average, while others trust each other and have to charge each other very little because they're all actually flush with liquidity so it's only out of convenience, not need, that they borrow overnight.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 05:03:54 PM EST
[ Parent ]
In that interpretation it's not that the change to unlimited tender led to the decoupling of EONIA from the policy rate. It is that the decoupling of EONIA from the policy rate coincided with the change, because they were both caused by the financial crisis. In this interpretation, the month between the start of the ECB sterilisation programme and the EONIA cardiac arrest would correspond to the time it took to drain excess liquidity from the subset of banks that both trust each other and have liquidity to spare.

Well, that's a testable hypothesis, if we know the volume that underlies the EONIA. If the above interpretation is true, it requires the total volume (pre-sterilisation ) on the EONIA to be roughly in the same ballpark as a month's worth of sterilisation effort. It would also predict that volume should fall off a cliff once the ECB starts sterilising, and become statistically indistinguishable from nothing by the time the sterilisation effort starts running into trouble.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Feb 26th, 2011 at 06:42:37 PM EST
[ Parent ]
The connection with banking sector segmentation may be given by the following from last week's thread:
Looking into this I found the following from last September (with my emphasis):
But the two-pronged approach, while messy, could work. If unlimited cash was available only in one-week rather than three-month portions by then, the ECB would still get the normal impact from a rate hike.

"If you wanted to continue providing unlimited liquidity while raising interest rates, the system in Europe would in many ways facilitate that quite easily," said Societe Generale economist James Nixon.

"The impact of a 25 basis point hike would be exactly the same. It would just mean that overnight rates, instead of being centred around the ECB's main refinancing rate, would sit at a small margin to the deposit rate." The ECB's deposit rate is currently 0.25 percent, while the benchmark is 1 percent.

That could all change, though, if the health of vulnerable banks suddenly improved. Excess cash in the system would soon disappear as banks sucked it up, driving market rates the 75 basis points towards the refinancing rate.

Such a move, although likely to take time, would be bigger than any single interest rate hike in the ECB's history, and all without the ECB's finger going near the interest rate trigger.

(Reuters: Bank aid may be no barrier to ECB rate hikes, September 23, 2010)


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sat Feb 26th, 2011 at 08:06:12 PM EST
[ Parent ]
I would suggest that you are on to something when you speculated that the banks are segregating into good and bad banks. As to how the ECB managed as well as it did through much of 2008, I would think it was due to the power of denial. After 2008 it was suggested in the USA that banks looked at their own books and thought: "If I am in this shape, what are conditions like in these other banks? At that point they became unwilling to lend to one another even overnight.

The money market "broke the buck" in October '08 and the Fed had to guarantee deposits there. So most banks in the USA were propped up by TARP and The Fed, and also in Europe, banks would rather take .25% from EONIA than risk lending at higher rates to other banks. Eventually, some banks have come to be seen as credit worthy and they can lend overnight to other banks seen as creditworthy. But I don't know if things played out similarly in the Eruo-zone.

Or have I got all this horribly wrong?

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Feb 28th, 2011 at 10:04:28 PM EST
[ Parent ]
It could also be that the reason they don't take advantage of repo rates is that they would have to take such a haircut on the proffered securities that it would reveal their books for the sham that they may well be.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Feb 28th, 2011 at 10:09:20 PM EST
[ Parent ]
I don't know what haircuts the ECB imposes on its "eligible collateral", but the "eligible collateral" is supposed to be relatively good. Sort of like Lehman's Repo 105 - everyone keeps thinking in terms of banks parking toxic assets at the central bank, but that's not what is happening.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:14:29 AM EST
[ Parent ]
Yeah, well less than 50% of their debt may qualify for a "bad" bank, and the badder they are the worse it gets.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Mar 1st, 2011 at 09:26:16 AM EST
[ Parent ]
ECB: Marketable assets

In order to be eligible as collateral for Eurosystem credit operations, marketable assets must comply with the eligibility criteria. Schematic overview

Eligibility criteria Marketable assets
Type of asset ECB debt certificates

Other marketable debt instruments: e.g.
Central government debt instruments
Debt instruments issued by central banks
Local and regional government debt instruments
Supranational debt instruments
Covered bank bonds
Credit institutions debt instruments
Debt instruments issued by corporate and other issuers
Asset-backed securities
Credit standards The asset must meet high credit standards. The high credit standards are assessed using Eurosystem credit assessment framework (ECAF) rules for marketable assets.
Place of issue EEA
Settlement /
handling procedures
Place of settlement: euro area
Instruments must be centrally deposited in book-entry form with central banks or an SSS fulfilling the ECB's minimum standards.
Type of issuer / debtor / guarantors Central banks
Public sector
Private sector
International and supranational institutions
Place of establishment of the issuer / guarantor Issuer: EEA or non-EEA G10 countries
Guarantor: EEA
Acceptable markets Regulated markets
Non-regulated markets accepted by the ECB
Currency Euro
Cross-border use Yes

For details, see the latest version of

  • General Documentation, Section 6.2.1,   1.1MB, en


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 10:21:51 AM EST
[ Parent ]
I will let you tell me just how fine are the ABSs and the assets that cover the covered bank bonds. But I am very sure that all applicable regulations were met to the letter, if not the spirit.
The asset must meet high credit standards. The high credit standards are assessed using Eurosystem credit assessment framework (ECAF) rules for marketable assets.

And I will bet that the Irish banks met these standards right up until they didn't. Are those standards similar to those required of the banks during the stress tests?

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Mar 1st, 2011 at 08:52:07 PM EST
[ Parent ]
The more I think about this the more angry I am about this:
The idea that sovereign bond purchases need to be "sterilised" to prevent inflation illustrates that the ECB has a very peculiar concept of sovereign debt, in contrast to its idea of private debt. Consider the ECB's own covered bond ("Pfandbrief") programme. In May 2009, the ECB decided to buy up to €60bn of asset-backed bonds issued by Eurozone commercial banks, without much protest. A year later the mere suggestion that the ECB might purchase a comparable amount of sovereign debt was, and continues to be, met with hysteria. Some ECB council members went so far as to claim that secondary market purchases of sovereign bonds were prohibited by the Treaty - which is not true. The constituent rules of the eurozone appear to be based on the bizarre idea that sovereign debt is toxic until such time as it has been sanitized by going through the bid-offer spread of a major investment bank, while privately-issued covered bonds are pristine, even at issue.


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Wed Mar 2nd, 2011 at 02:12:29 AM EST
[ Parent ]
"Consistency is the hobgoblin of small minds!" --- especially on a matter as important as money.

Perhaps the problem is the name -- European Central Bank. People fail to understand two crucial factors:

  1. The center is Germany.
  2. It is not a "common" bank, as in "acting in the common interest of all citizens of Euro-zone nations. It is an elite bank, as in "acting in the interests of the monetary elite, primarily German.


"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 2nd, 2011 at 09:21:03 AM EST
[ Parent ]
PIMCO - Covered Bond Basics
Covered bonds are similar in many ways to mortgage- and asset-backed securities with one major difference: the loans backing a covered bond remain on the balance sheet of the issuing bank. The bonds are therefore obligations of the issuing bank, and the issuer retains control over the assets. It can change the make-up of the loan pool to maintain its credit quality, which can benefit investors, and it can also change the terms of the loans. By contrast, mortgage- and asset-backed securities are typically off-balance-sheet transactions in which lenders sell loans to special purpose vehicles that issue bonds, thus removing the loans--and the risk associated with those loans--from the lenders' balance sheets.

 

Germany introduced covered bonds, known as Pfandbriefe, in 1770 to finance public works projects. Since then, 24 other countries in Europe have adopted the covered bond structure, each with its own unique laws. In Spain, for example, covered bonds backed by mortgages, known as Cédulas Hipotecarias, were created by a special law in 1981, while in France, covered bonds, known as obligations foncières, can be traced as far back as 1852, with the establishment of the first mortgage bank, Credit Foncier de France. All countries with covered bond laws now allow for bonds backed by mortgages, while only a few allow covered bonds backed by public sector loans: Germany, France, Austria and Spain. In Denmark and Germany, covered bonds may also be secured by ship loans.

 

Originally, only specialised mortgage and public sector banks could issue covered bonds in Germany, but new laws in 2005 expanded the universe of potential issuers to include all credit institutions that meet certain credit quality requirements and obtain a license. Many other countries have also made the covered bond market accessible to more lenders, but some, including Denmark and France, still require that covered bond issuers limit their business to making high quality loans in specific areas, such as mortgages.

German asset-backed securities = good to purchase in the primary market.

Peripheral sovereign bonds = illegal to purchase in the primary market, toxic to purchase in the secondary market.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Wed Mar 2nd, 2011 at 10:17:24 AM EST
[ Parent ]
German asset-backed securities meeting "certain credit quality requirements", don't forget.
by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 2nd, 2011 at 11:02:22 AM EST
[ Parent ]
have historically been the safest kinds of bonds - because they are backed by both the signature of the issuer AND by valuable assets.

Given that issuers are still fully on the hook, the temptation, as in non-recourse ABSs, to game the system by slowly worsening the quality of the assrts provided as security, is inexistent.

It's a practical way for serious issuers to recycle their long term assets and get some liquidity - but as the debt stays on their balance-sheet, they can't do that beyond certain limits.

As a matter of fact, covered bonds were invented at a time when sovereign or bank defaults were rather frequent, and they were specifically designed to ensure that they could not happen with them.

So there are good reasons to treat covered bonds as high quality collateral.

Wind power

by Jerome a Paris (etg@eurotrib.com) on Sun Mar 6th, 2011 at 05:18:09 AM EST
[ Parent ]
For more info on Pfandbriefe, go to this page at ECBC, click on Pfandbriefe, then scroll down. Other types of covered bonds can be compared.
by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 2nd, 2011 at 11:11:44 AM EST
[ Parent ]

click and hold to enlarge

From the ECBC's Factbook 2010.

Germany goes in for public sector-backed covered bonds more than mortgage-backed. But still has more than twice as much outstanding as Country N°2, Spain.

More to come.

by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 2nd, 2011 at 11:36:28 AM EST
[ Parent ]
So the ECB could have bought 60 billion worth of public-debt-backed covered bonds without any complaints or need for sterilization in mid-2009?

But buying public debt requires sterilization and is accompanied by screams of bloody murder.

The sanitizing effect of investment banks, indeed.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Wed Mar 2nd, 2011 at 11:44:18 AM EST
[ Parent ]
The ECBC Factbook linked above has a chapter

1.2 WAS THE ECB COVERED BOND PURCHASE PROGRAMME A SUCCESS?

Opening key fact:

The ECB disclosed daily the purchase volume under its programme. In addition, monthly reports on the purchases were published disclosing the amount purchased in the primary and secondary market. However, the ECB did not disclose any additional information regarding the breakdown by currency or country, not even in the final report. We only know that "in total, 422 different bonds were purchased, 27% in the primary market and the remaining 73% in the secondary market. The Eurosystem mainly purchased covered bonds with maturities of three to seven years, which resulted in an average modified duration of 4.12 for the portfolio, as of June 2010". We also know that the "Eurosystem intends to hold the purchased covered bonds until maturity".

The paper assumes that the €60bn were allotted as per national bank capital holdings in the ECB, which would give the Bundesbank practically a quarter.

The Conclusion states that the programme did a lot for the covered bond market. But:

The only caveat has been the domestic bias of the purchases by the national central banks which based on the flow we saw and other anecdotal evidence bought primarily paper from issuers out of their own countries. Hence, the German, French and Italian issuers benefited isproportionally whilst the Greek, Spanish and Portuguese markets, despite having arguably the highest needs, received less support due to their lower outstanding covered bond volumes.
by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 2nd, 2011 at 12:08:30 PM EST
[ Parent ]
So the ECB acted as market maker of last resort for the covered bond market. Why can this not be done for the sovereign bond market without giving the serious people apoplexy?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Wed Mar 2nd, 2011 at 04:46:08 PM EST
[ Parent ]
Oh, but it can. All the governments of the relevant countries have to do is found a government-owned and -run bank, and have that bank issue covered bonds against its own sovereign debt. And viola, the purifying power of the bid-ask spread of a - nominally - private bank has turned the toxic public debt into a pristine private monetary instrument.

These rules are a fucking farce.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Wed Mar 2nd, 2011 at 10:05:07 PM EST
[ Parent ]
JakeS:
These rules are a fucking farce.
Been screaming about this for over a year now. But finally we're amassing a wealth of evidence of the extent to which the Eurozone is built on bullshit.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:43:15 AM EST
[ Parent ]
It's not turning public debt into something good: it's turning an extra-volume of public debt, plus the signature of the entity issuing the bonds, into something good. Overcollateralisation, plus recourse over someone else's paid-up equity: it does make a difference.

Wind power
by Jerome a Paris (etg@eurotrib.com) on Sun Mar 6th, 2011 at 05:21:02 AM EST
[ Parent ]
Why is buying public bonds inflationary and in need of sterilization, while buying covered bonds isn't?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 05:26:55 AM EST
[ Parent ]
If, as with Portugal just now, a country is in a situation where it seems unlikely that it will have the tax base to pay off its obligations, covered bonds might not be such a good solution. Why put public assets such as hydro power, wind power, rail, etc. up as collateral for covered bonds? That would seem a prelude to loss of public control of these assets in a default. It would seem more in the (Portuguese) public interest to leave the debt backed by "the full faith and credit" of the nation and let the debtors come after the whole angry nation. At least the public would retain the benefits of public ownership of power generation, rail, etc.  

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Mar 6th, 2011 at 09:23:07 AM EST
[ Parent ]
I wondered who was putting a figure so deep into the comment thread that the post had to be made almost illegibly tiny to get rid of the pan and scan effect.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Wed Mar 2nd, 2011 at 04:05:57 PM EST
[ Parent ]

by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 2nd, 2011 at 11:49:01 AM EST
[ Parent ]
I now know where to find the haircuts that the ECB imposes on the repos of different kinds of assets.

Francesco Papadia is the one ECB official quoted as making sense elsewhere in this discussion. I found an ECB page: Occasional papers by Francesco Papadia. He has only one - props to Papadia for not decreasing the signal-to-noise ration by publishing more often than he has something interesting to say.

Anyway, the paper Credit risk mitigation in central bank operations and its effects on financial markets: the case of the Eurosystem [PDF] includes the following table on page 9:

The quoted source presumably contains more information about repos and haircuts.

Notably, Pfandbriefe (covered bonds) are considered to have a higher credit risk than sovereign debt, for the purposes of repos, but lower risk that off-balance-sheet Asset Backed Securities. The definin characteristic of Covered Bonds is that they remain on the balance sheet of the issuer. As such, they are a form of securitization not motivated by regulatory arbitrage.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 05:37:55 AM EST
[ Parent ]
ARGeezer:
After 2008 it was suggested in the USA that banks looked at their own books and thought: "If I am in this shape, what are conditions like in these other banks? At that point they became unwilling to lend to one another even overnight.
I think we had been suggesting this here on ET since 2007. The interbank market froze in August 2007 and has stayed tight since.

The ECB was decisive in its liquidity provision, and one of its first unlimited liquidity operations was a two-week tender to tide banks over year-end in 2007 already. When unlimited liquidity at the wekly repos was introduced in October 2008 it was just more of the same.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:12:55 AM EST
[ Parent ]
I have two concerns here: that I might be way off base and that I might be glaringly obvious. But I am doing the best I can. :-)

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 2nd, 2011 at 07:56:44 PM EST
[ Parent ]
The closest I can find is the ECB's Bank Lending Survey, published quarterly. The latest issue is for the 4th quarter of 2010 (PDF)
Deterioration in access to money markets and debt securities markets

In the last quarter of 2010, possibly reflecting the renewed financial market tensions following concerns about sovereign risk, banks generally reported a deterioration in their access to short-term money markets and the markets for debt securities issuance (see Chart 7), while they generally noted unchanged conditions for their access to true-sale securitisation of corporate and housing loans as well as synthetic securitization, i.e. the ability to transfer credit risk off the balance sheet. More specifically, in the last quarter of 2010, 24% of the banks (excluding banks replying "not applicable") reported a deteriorated access to short-term money markets with maturities exceeding one week, whereas access to very short-term money markets was deemed to have been more hampered for only 3%. For debt securities markets, around 25-30% of the banks reported a deteriorated access.

The sentence I've bolded is a very peculiar summary of the survey results. Looking at the appendix one finds that the question and answers were:
As a result of the situation in financial markets, has your market access changed when tapping your usual sources of wholesale funding and/or has your ability to transfer risk changed over the past three months, or are you expecting this access/activity to change over the next three months?
A) Interbank unsecured money market---0+++
Very short-term money market (up to one week)2%11%77%9%1%
Short-term money market (more than one week)4%25%65%4%1%


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 12:16:26 PM EST
[ Parent ]
FX Street: EUR: A brief guide to what drives the EONIA (February 3 2011)

  • In this note we describe the ECB operations and their relation to the daily fixing of the effective overnight reference rate for the euro (EONIA).
  • In recent weeks short-dated money market rates have fixed above ECB's refi-rate despite the ECB providing unlimited supply of liquidity - what's going on?
  • We find that the key factor behind higher rates is related to falling demand for liquidity at tender operations rather than the ECB explicitly changing its exit policy.
  • The ECB might, however, have scared off some bidders at its tender operations, when Trichet recently said that the ECB aims to discourage persistent bidders.
  • At its meeting in March we expect the ECB to announce a shift to fixed allotment for all refinancing operations from April.
  • Normalisation during H1 should gradually put the ECB back in the driver's seat in terms of more effective management of the liquidity balance and hence EONIA.


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 04:11:51 AM EST
Morningstar.co.uk: Money Market ETFs: Brighter Prospects Ahead? (08-11-10)
There is no uniform definition as to what best represents the essence of the money market, but the majority of Eurozone money market ETFs opt to replicate the return of a rolling deposit invested daily at Eonia (i.e. the overnight reference rate for the Euro computed as a weighted average of all overnight unsecured lending transactions undertaken in the banking system). Historically, Eonia has tracked the ECB main refi rate, but since the onset of the financial crisis it has been tracking the much lower deposit rate, currently 0.25%. This has been a direct result of the ECB liquidity provision efforts to keep the interbanking system rolling. As private banks have been very reluctant to lend to each other, ample excess liquidity has been making its way back to the ECB via its deposit facility, in the process forcing Eonia down to track the ECB's deposit rate. The spread between Eonia and the ECB deposit rate narrowed from its pre-crisis average of around 105bps to just 10bps in H2-2009 and H1-2010. Returns of money market ETFs tracking Eonia have of course followed the same path, in the process making them financially unattractive for cash equitisation when compared to alternatives, whether ETF or not, involving a similar low level of risk but offering rates of return close or above the ECB refi rate.

It would seem clear that for money market ETFs to establish themselves as serious contenders for investors' cash equitisation purposes we need money market dynamics to revert to pre-crisis settings. Although very tentative, some encouraging signs have been noted over the last few months. Eonia has been more volatile and trending higher since the expiry in July of the ECB's last 12m refinancing operation. But this has also been facilitated by a decrease in private banks' recourse to the ECB deposit facility. As a result, the Eonia-ECB deposit rate spread widened to 20bps in Q3-10 and further up to 44bps in October.

In principle this signals that financial markets may be pricing in the full phasing out of the ECB's non-standard liquidity provision measures, which would put further upward pressure in Eonia, in turn pushing up returns on Eurozone money market ETFs. However, at this stage the markets continue to see this as a long-term prospect. Quotes taken after the ECB's policy meeting on 4-November showed Eonia hitting 1.00% only at end-2011. The ECB may be tired of what it describes as "addicted banks", but the road towards normalisation of money markets remains filled with bumps (e.g. new bout of sovereign debt crisis) that could easily knock it off course.



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 04:16:31 AM EST
That article is accompanied by a chart of EONIA, repo and deposit since the crisis, not unlike the bottom half of this:



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 08:08:47 AM EST
[ Parent ]
Migeru:
Eonia has been more volatile and trending higher since the expiry in July of the ECB's last 12m refinancing operation.

There at least is a different event roughly contemporary with the beginning of bond purchases and sterilisation.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 04:08:36 PM EST
[ Parent ]
My argument about sterilization unnecessarily removing liquidity was intended to illustrate that the ECB does not understand that "eligible collateral" is money by virtue of the fact that it can be repo'd at will by "eligible counterparties".

The fact that the ECB has been removing the other emergency liquidity (no more one-year lending, and phasing out of six-month and three-month liquidity auctions) does make liquidity tighter intentionally. The ECB intends to remove all liquidity support gradually. Eventually we'll be in a situation where the only extraordinary liquidity is the one coming from the weekly repos being unlimited, which I think they should be on general principles but that's a different discussion.

The takeaway from the sterilization argument is that the ECB wrongly believes bond purchase expands the monetary mass. The monetary authority does not understand money because they are a bunch of Austrians.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:47:02 AM EST
[ Parent ]
To the end of identifying things that might be confusing I would suggest that the effects of who is borrowing and who is lending at any given time be clarified and made explicitly free of jargon. If I understand correctly, the baseline rate of EONIA is currently established by the rate that the ECB PAYS depositors and that this is likely because the healthy banks are reluctant to lend overnight at higher rates to bad banks and instead deposit excess cash at the ECB for the minimal depository rate. THEY WILL LEND OVERNIGHT TO GOOD RISK BANKS, but, due to the relative surplus of cash compared to creditworthy borrowers, this tends to be very close to or at the depository rate. This establishes the  (green line) depository rate as the baseline for EONIA. But the less healthy banks don't have excess reserves to deposit at the ECB and, in fact, have to borrow at the end of the maintenance period in order to have enough reserves to meet requirements. This drives up the rates in the heartbeat spike pattern shown.

If anything happens that decreases the reserves of most banks, then fewer banks will have excess reserves to deposit at the depository rates and more will have to borrow reserves for longer periods of time. This increased demand for overnight loans will drive up EONIA and keep it up longer, depending on the severity of the problem. I can only hope that this is neither totally wrong nor hopelessly obvious. Either way, I hope to learn something.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 2nd, 2011 at 08:36:24 PM EST
[ Parent ]
Precisely.

The more different ways this argument is restated the better the chance is that readers will understand what is being said.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:45:30 AM EST
[ Parent ]
ARGeezer:
the less healthy banks don't have excess reserves to deposit at the ECB and, in fact, have to borrow at the end of the maintenance period in order to have enough reserves to meet requirements. This drives up the rates in the heartbeat spike pattern shown.
In fact, the heartbeat pattern comes from the "healthy" banks - they attempt to squeeze as much profit as possible from what little spare liquidity they have so they hold a reserve deficit over the period and lend the different short-term, then top up on the last day.

The "unhealthy" banks probably have to borrow enough at the repo rate to cover their reserve requirements without resort to the interbank market at all.

One possible explanation of the heightened volatility and raised level in the past 8 months is that on the one hand the ECB is withdrawing extraordnary liquidity support (e.g., the 1-year tender wasn't renewed), and on the other hand every time an ECB official opens their mouth the market has a fit.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 05:10:14 AM EST
[ Parent ]
Two questions:
  1. Would healthy banks in an adverse climate, (few creditworthy borrowers), still be desirous of the .25% interest. I recall many TARP recipients had large amounts of "excess reserves" deposited with the Fed, earning interest, but the deposit rate was a bit higher, IIRCC.

  2. If the rate is to be held for an indefinite length of time and is available in unlimited quantity, what is to prevent good banks from borrowing at .25% to speculate on commodities, stocks, etc. A sort of Central Bank "carry trade"?  Nothing?  


"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Mar 3rd, 2011 at 09:24:09 AM EST
[ Parent ]
Banks don't borrow, in the aggregate, at 0.25% - they borrow at 1%.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 09:33:40 AM EST
[ Parent ]
Are they not remunerated for making the required deposits, and is that remuneration not now, effectively, the EONIA rate and the same as they would get for depositing "excess reserves" with the ECB. I could see that they would have to borrow from the ECB if they could not come up with the money to meet the reserve requirement. What do you mean by "in the aggregate"?

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Mar 3rd, 2011 at 08:02:35 PM EST
[ Parent ]
Are they not remunerated for making the required deposits, and is that remuneration not now, effectively, the EONIA rate

That's what it says.

and the same as they would get for depositing "excess reserves" with the ECB.

A bit higher by now, actually.

What do you mean by "in the aggregate"?

That's a response to your question of whether they could borrow at 0.25 % and use the funds to speculate. They can't - if the banks who are not shut out of the overnight market began showing that sort of aggressive behaviour they would either be shut out of the overnight market or the overnight market would rise to the MRO rate.

They can borrow at 1 % and use the proceeds for speculation assuming they have enough sound assets to pledge at the discount window. I don't know precisely what a sound asset is, so I couldn't tell you whether - say - an oil future counts, though.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Mar 4th, 2011 at 01:45:49 AM EST
[ Parent ]
They can borrow at 1 % and use the proceeds for speculation assuming they have enough sound assets to pledge at the discount window. I don't know precisely what a sound asset is, so I couldn't tell you whether - say - an oil future counts, though.

From elsewhere in the thread

Type of asset:     ECB debt certificates [or]

Other marketable debt instruments: e.g.
Central government debt instruments
Debt instruments issued by central banks
Local and regional government debt instruments
Supranational debt instruments
Covered bank bonds
Credit institutions debt instruments
Debt instruments issued by corporate and other issuers
Asset-backed securities



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 02:10:42 AM EST
[ Parent ]
Are they not remunerated for making the required deposits, and is that remuneration not now, effectively, the EONIA rate and the same as they would get for depositing "excess reserves" with the ECB.

No,  from the diary:

(BuBa sez:) ... credit institutions' holdings of required reserves are remunerated. The remuneration corresponds to the marginal rate (weighted according to the number of calendar days) of the main refinancing operations during the reserve maintenance period.
That is, the Repo rate, currently 1%
This rate is therefore very close to the short-term money market rates.
No, they are not any more since the short-term money market rates has been close to the Deposit rate for the last 28 months, and the latter has been at 0.25% since mid-2009.

What do you mean by "in the aggregate"?

I mean taking the baking system as a whole, viewing it as a single borrower from the ECB and the interbank lending rate as a "frictional" cost arising from dividing up the banking system into a number of institutions. The ECB doesn't lend at 0.25%, it lends at 1% or 1.75%. It remunerates at 0.25% - the fact that it remunerates required reserves at the same rate as the Repo means that you can meet your reserve requirements by repo'ing "elligible collateral".

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 05:08:49 AM EST
[ Parent ]
If I understand correctly, the baseline rate of EONIA is currently established by the rate that the ECB PAYS depositors and that this is likely because the healthy banks are reluctant to lend overnight at higher rates to bad banks and instead deposit excess cash at the ECB for the minimal depository rate. THEY WILL LEND OVERNIGHT TO GOOD RISK BANKS, but, due to the relative surplus of cash compared to creditworthy borrowers, this tends to be very close to or at the depository rate. This establishes the  (green line) depository rate as the baseline for EONIA.

This is my reading too.

But the less healthy banks don't have excess reserves to deposit at the ECB and, in fact, have to borrow at the end of the maintenance period in order to have enough reserves to meet requirements. This drives up the rates in the heartbeat spike pattern shown.

This is not my reading, but it is not impossible that you are correct.

My reading is that EONIA is now completely decoupled from the MRO. Meaning that the bad banks don't borrow on EONIA at all - they borrow directly from the ECB. Which is why the ECB's liquidity support is being tapped so heavily. Which is what is getting Die Seriöse Leute's knickers in a twist. Under this reading, the spikes are due to banks being unable to predict precisely how much reserves they'll need. Since the banks who have excess reserves at the end of a maintenance period can always just leave them at the ECB for 0.25 %, they have the banks who underestimated their reserve needs over a barrel, and can demand more than 0.25 %

(Whereas in the normal course of operations, where EONIA is centred around the MRO rate, the banks needing reserves will sometimes have the banks with excess reserves over a barrel, because the banks as a whole overestimated their reserve needs, and there is room for EONIA to drop.)

But your reading is also possible: It is possible that the good (old boys') banks who are not generally prepared to lend overnight to the bad banks are willing to do so on the final day of the maintenance period, for some reason. Off the top of my head, I can't think of any, but that does not mean that one does not exist. The only way to really tell the two hypotheses apart would be to look a the volume data. But unfortunately that's proprietary.

If anything happens that decreases the reserves of most [good] banks, then fewer banks will have excess reserves to deposit at the depository rates and more will have to borrow reserves for longer periods of time. This increased demand for overnight loans will drive up EONIA and keep it up longer, depending on the severity of the problem.

Yes. With the caveat that draining liquidity should also thin the volume on EONIA, and thinner volume would be expected, all else being equal, to lead to increased volatility. And since EONIA is bounded at the low end by the deposit rate, the volatility would have to manifest in a trend towards higher rates.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Mar 3rd, 2011 at 10:34:44 AM EST
[ Parent ]
JakeS:
Since the banks who have excess reserves at the end of a maintenance period can always just leave them at the ECB for 0.25 %, they have the banks who underestimated their reserve needs over a barrel, and can demand more than 0.25 %

Aha, thus the spikes down as well as up pre 15/10/08.

On the subject of spikes down, what happened in the fall of 2001 to cause EONIA to drop below MRO?

Should be unpossible - realted to 9/11?

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Thu Mar 3rd, 2011 at 02:57:19 PM EST
[ Parent ]
September 18 to October 16, 2001. Bottom was on September 20-21.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 03:29:37 PM EST
[ Parent ]
Is EONIA set solely by decision of the ECB, or can market forces move it even absent agreement of the ECB. I have thought both at different times.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Mar 3rd, 2011 at 08:10:56 PM EST
[ Parent ]
It's an average of actual transactions, calculated by the ECB.
by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 01:58:42 AM EST
[ Parent ]
From the diary:
Eonia® (Euro OverNight Index Average) is an effective overnight rate computed as a weighted average of all overnight unsecured lending transactions in the interbank market, initiated within the euro area by the contributing panel banks.
It's a market rate - the ECB doesn't get to set the position of EONIA within the Depo-Repo-Marginal band of policy rates, though in time of crisis they have a major influence on it through the liquidity conditions as we're seeing.

I emphasize in time of crisis because, prior to June 2000, refinancing operations were also on an unlimited tender and yet the interbank rate had its baseline on the Repo rate, not the Deposit rate.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 02:07:56 AM EST
[ Parent ]
But "within the Depo-Repo-Marginal band of policy rates" is itself a rather important point. The ECB could set the deposit rate equal to (or only very slightly below) the repo rate if it didn't like EONIA decoupling too far from the repo rate (EONIA should not normally remain above the repo rate for an extended period of time, so it doesn't need to set the penalty rate as close to the MRO rate).

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Mar 4th, 2011 at 02:25:46 AM EST
[ Parent ]
The ECB likes its bands symmetric about the Repo rate. It also likes them 1% wide in either direction.

You know, these kinds of cutesy rules of thumb are no way to run monetary policy. How much do we pay these people? (Apart from the perk of appointing them high priests of the economic religion?)

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 03:57:50 AM EST
[ Parent ]
EONIA is a market rate, so it can move independently of explicit ECB actions. However,

  1. It cannot go below the ECB's deposit rate, since at that rate the lenders could simply dump their cash at the ECB.

  2. It can only go above the ECB's penalty rate if borrowers have no sound assets to pledge at the discount window. This should cause enough concern for potential lenders to effectively prohibit it.

  3. Under non-crisis conditions, arbitrage should centre EONIA on the MRO rate when there are insufficient reserves in the banking system to meet regulatory requirements, and on the deposit rate when there are excess reserves over the regulatory requirement.

It's point 3) that's been getting our knickers in a twist for the past few days. Under non-crisis conditions point 3) means that

  1. It shouldn't be possible to have both high volume on the discount window and excess liquidity in the EONIA system (as indicated by EONIA being substantially below the MRO rate for an extended period of time).

  2. EONIA shouldn't be looking like a cardiac arrest.

The fact that there is and it does means that there's a crisis. We've been trying to figure out what sort of crisis. Trichet (and the Conventional Wisdom along with him) seems to be labouring under the impression that European banks have taken to the habit of borrowing at one percent in order to lend at a quarter of a percent. We find this claim somewhat less than perfectly reasonable. While bankers may not possess the omniscience usually attributed to them by the Conventional Wisdom, they are not that stupid.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Mar 4th, 2011 at 02:09:05 AM EST
[ Parent ]
Is this the "takeaway from policymakers" we've been looking for?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 02:21:01 AM EST
[ Parent ]
"What sort of crisis?" seems to be remaining business.
by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 05:19:27 AM EST
[ Parent ]
A systemic banking solvency crisis. At least one ECB official sees it.

UPDATE 1-ECB official-peripheral banks still dependent on ECB | Reuters (March 3, 2011)

The euro zone money market is polarised with banks in peripheral euro zone countries still dependent on the European Central Bank for liquidity, the ECB's head of market operations Francesco Papadia said on Thursday.

Papadia, who oversees the ECB's crisis strategy and controversial government bond purchase programme, said the money market remained split between banks who have access to open markets and those who do not.

He urged reliant banks to come up with ways to end their dependency on the ECB, calling national governments to take action where necessary.

This is where we get to say "policy makers should solve the banking crisis by auditing, restructuring and recapitalizing their banking systems".

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 05:42:05 AM EST
[ Parent ]
Agreed. I don't know whether we can get a more precise handle on the who-what-when-how of interbank lending since last July.
by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 06:54:22 AM EST
[ Parent ]
I doubt we'll get closer to the "who." That will probably not be made public even when (if) they start sending in the forensic accountants.

The what, how and when, maybe. But I think we have a workable hypothesis which measures up well enough with the data to be able to shoot down the conventional wisdom.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Mar 4th, 2011 at 10:30:10 AM EST
[ Parent ]
of the discussion n this thread, adding to the initial diary, might be a good thing...

Wind power
by Jerome a Paris (etg@eurotrib.com) on Sun Mar 6th, 2011 at 05:33:04 AM EST
[ Parent ]
The conclusion was already a "speculation" at the end of the diary:
Another implication is that banks are covering all their liquidity needs at the MRO rather than borrowing from each other at EONIA, which is strange given that EONIA is so much lower. This might mean that the amount actually offered at EONIA is relatively small, so while banks are receiving liquidity from the ECB they're actually hoarding it. A possible mechanism for EONIA to become decoupled form the MRO is a segmentation of the banking sector into (at least) two groups. One group of banks, the good old boys, are trusted by other banks and so borrow cheaply at EONIA (here's where we recall the observation that even under the heightened interbank volatility conditions of late the EONIA rate manages to touch back down near the deposit rate baseline some days - and remember also that EONIA is a weighted average of actual transactions). The banks other banks don't trust are financing themselves at the repo and marginal rates (that is, from the Central Bank, currently at 1% weekly and 1.75% daily, and on good collateral). The banks most everyone trusts are financing themselves at the repo and EONIA rates (1% weekly at the ECB on good collateral, and daily at the low rate they charge each other, without collateral). However, the volume available for EONIA lending among the trusted banks is dwindling because they are putting it in "sterilising" deposits at the ECB.
What we have is a collection of evidence that needs to be summarised.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 05:40:12 AM EST
[ Parent ]
Damn. I'm still looking for a plausible villain for my book.

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II
by eurogreen on Sun Mar 6th, 2011 at 07:47:14 AM EST
[ Parent ]
European Central Bank press conference: Jean-Claude Trichet, President of the ECB; Lucas Papademos, Vice President of the ECB (Frankfurt, 14 January 2010)
Question: Mr Trichet, do you expect the EONIA to remain at its current level for the first half of the year?

...

Trichet: In answer to your first question, the EONIA is the product of market functioning and I am not surprised that it is quite close to the deposit rate, given the level of liquidity that is in the market. We will see what happens. In any case, a number of observers are noting that, owing to our past decisions, in particular those associated with the 12-month operations, liquidity will be abundant for a number of months. As long as this liquidity is abundant, it is not surprising that the EONIA is close to the deposit rate.

Question: ...

And thirdly, you talked about EONIA and short-term market interest rates. I am confused about how this all would work and your thinking on this. I know you try to distinguish between monetary policy and aid for the financial markets. When it comes to bringing market interest rates back up to the main policy rate - which it is expected you would do in the course of this year, maybe after April once you end the unlimited or full allotment procedure - will that be only done in line with developments and improvements in financial markets or will that also be part of your monetary policy strategy?

Trichet: ...

With regard to your third question, I will only say that the EONIA was affected by the way in which we handled our supply of liquidity on the back of the exceptional circumstances during the crisis. The way in which we supplied liquidity, in particular the fixed rate tender procedure with full allotment, pushed the overnight rates close to the lowest point in the corridor, namely the deposit rate. As I have already said, it is obvious that this would be the case. We accept it fully. It is part of market functioning and we consider it to be fully in line with our monetary policy. When we change the way in which we handle liquidity, there will be a change in the position of the EONIA in the corridor, which is defined by the interest rates of the marginal lending and of the deposit facilities, with the main refinancing operations in between.



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 04:22:10 AM EST
iMarketNews; ECB's Weber: To Drop Liquidity Tools In Opposite Order Of Introduction (December 9, 2009)
The gradual withdrawal of supplemental liquidity operations should not be read as signalling interest rate moves in the near-term, but it should eventually lead to a gradual rise of EONIA above the ECB's deposit rate, Weber predicted.

...

Since the ECB will continue to offer weekly MROs at a fixed rate with full allotment, Weber said he expects the EONIA to remain very close to the deposit rate in the first quarter as banks will return to weekly refi operations. However, the announcements of withdrawal of liquidity measure and in particular their implementation should move the EONIA gradually higher, Weber predicted.

"I do not expect this to be a quick process," but an orderly gradual movement, Weber said, dismissing the risk a of sharp jump in EONIA rates. Once all tenders are changed back to previous allotment procedures, the EONIA rates should once again move above the main refi rate, Weber said.



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 04:25:21 AM EST
[ Parent ]
We can read in what Weber is reported to have said here, some explanation of the MRO (repo) mechanism change, as a response to the crisis in providing more liquidity - in fact, the regular heartbeat phase between mid-2009 and mid-2010 would seem to correspond to that (EONIA dropped from the repo baseline to the deposit baseline, ie money was easier to come by so actual interest rates lower - at least, that's one possible reading). AW is unsurprisingly in favour of curtailing this asap:

ECB's Weber: To Drop Liquidity Tools In Opposite Order Of Introduction | iMarketNews.com

the decision to scale back unconventional measures was needed in order to avoid further expansion of monetary stimulus, Weber argued.

By the same token, any further improvement in financial markets will call for a further scaling back of liquidity provisions if additional stimulus is to be avoided, he asserted.

"With an unaltered continuation of non-conventional measures, an improved situation in financial markets would lead to a more expansionary orientation of monetary policy," Weber said.

But:

Axel Weber, Dec 2010:

Since the ECB will continue to offer weekly MROs at a fixed rate with full allotment, Weber said he expects the EONIA to remain very close to the deposit rate in the first quarter as banks will return to weekly refi operations

He hasn't been proved right, from Dec to Feb, since the EONIA, even at its lowest, is above its standard level wrt the deposit rate during the "heartbeat" period. The fixed-rate, full-allotment mechanism for MROs is still unchanged, but the heartbeat has gone wild.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 08:37:26 AM EST
[ Parent ]
Weber is a brute. He said
As the ECB returns to a conventional liquidity framework, the ECB will also normalize that gap between its marginal lending, main refinancing and deposit rates. That gap has narrowed from 1% pre-crisis to 75 basis points at the present time. "When we see the first rate hike, this [gap] will likely have to be moved towards normality," Weber said.
What that would mean is rates going form 0.25% - 1% - 1.75% to at least 0.5% - 1.5% - 2.5%, supposedly to remove a liquidity that simply isn't there.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 09:09:49 AM EST
[ Parent ]
Note that Weber said this in December 2009, not 2010. Also that Trichet was answering to a journalist upthread who assumed "full allotment" would be removed by April 2010.

The sovereign debt crisis took everyone by surprise and has led to a full additional year of liquidity support.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 11:35:07 AM EST
[ Parent ]
Oops bad misreading on my part, I paid attention to how early in December he said it and assumed the year.

So his explanation for the low-interest stable heartbeat is that the banks were filling the tank at no-limit MROs, and having less need for overnight lending?

It still, of course, gets us no nearer to an explanation of the change in EONIA after mid-2010 - other than sterilisation.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 12:32:17 PM EST
[ Parent ]
The more I think about this the less sense it makes.

This is probably a topic for a future instalment (too many different curves already!) but consider the fact (data) that Euribor 1W (unsecured interbank borrowing at one-week maturity) is currently cheaper than the ECB's repo rate (overcollateralised borrowing at one-week maturity) and has been since 2009, though it is now trending up from its low of 0.336% (!!??) last March. How can that be an unsurprising result of market forces? If you pledge high-quality collateral, shouldn't you get a lower rate of interest than if you ask to borrow unsercured?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 12:51:23 PM EST
[ Parent ]
I can think of two ways that could happen: Either there's no volume on the MRO, or the interbank market has decoupled completely from the discount window. But Die Seriöse Leute are getting their knickers in a twist precisely over the high MRO volume. So unless I'm missing a third option, we are looking at a decoupling between the discount window and the interbank market.

In other words, one group of banks has plenty of liquidity, and is able to fund on the interbank market, while another group has tight liquidity, cannot access the interbank market and has to rely on the discount window. That's the only explanation I can see for the relative position of the Euribor and MRO rates. And since EONIA is usually below Euribor, you get a highly suppressed EONIA.

This is very bad.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sun Feb 27th, 2011 at 01:05:33 PM EST
[ Parent ]
If this is correct, we're looking at a very long bank run indeed, lasting over 28 months now, and counting.

But also, the EONIA cardiac arrest would reflect growing tensions within the group of healthier banks.

Not good at all.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 01:19:04 PM EST
[ Parent ]
Isn't "the longest bank run ever" roughly what you would predict if you tried to handle a solvency crisis as if it were a liquidity crisis?

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sun Feb 27th, 2011 at 02:05:29 PM EST
[ Parent ]
How long was the bank run at the start of the Great Depression in the US?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 03:04:10 PM EST
[ Parent ]
November 1930 to March 1933. 29 months.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se
by A swedish kind of death on Sun Feb 27th, 2011 at 04:14:27 PM EST
[ Parent ]
Woo hoo, go Yurp!

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 05:38:49 PM EST
[ Parent ]
Migeru:
growing tensions within the group of healthier banks

The break in mid-2010 is so striking that this is unlikely to be a gradual process of loss of trust between banks for overnight lending. What we need is a handle on how real overnight rates are agreed on between banks. What can raise the rate (which is an average) several days in a row? And even spike above the MRO rate? Scarcity of money overall, or non-trustworthy banks looking for deals on that market, both..?

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 03:57:48 PM EST
[ Parent ]
And what are the options of healthy banks wrt lending overnight. Can they pick and choose to whom they will lend or is there some other factor at play?

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 2nd, 2011 at 08:51:01 PM EST
[ Parent ]
What strikes me here is that the ECB has not switched back from full-allotment MROs as Weber predicted (even if it was wishful thinking). Why? Presumably, because money markets have not improved as he suggested they would.

Or, to break that down: "good" banks could get such easy access to overnight credit that EONIA was at historic lows. But "bad" banks were filling up (no ceiling) at the discount window. Why pay 1% when you can get 0.30%? Because 1% is the best deal you can get, ie other banks won't trust you at low rates.

And, if the ECB hasn't put an end to the "emergency" liquidity regime, it's because something untoward might happen if it did.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 03:10:01 PM EST
[ Parent ]
afew:
if the ECB hasn't put an end to the "emergency" liquidity regime, it's because something untoward might happen if it did
It's a good sign that after 3 years of crisis the Commission and the ECB understand this is not a liquidity crisis but a solvency crisis. However, it's the national governments that have to do the restructurings.

Spain is forcing a recapitalization of the Cajas. Maybe the estimates of the amount of capital needed are optimistic, but they have restructured two Cajas, forced greater transparency in reporting from the banking sector, ensured at least on paper the system is already sufficiently capitalised for Basel III, and taken the political bull by the horns and told the political parties and the regional governments that the days of political control over the Cajas are over.

Germany is in denial, opposes transparency of stress tests, snipes at the Basel committee and is arguing for a resolution of the wrong crisis.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:51:51 AM EST
[ Parent ]
Migeru:
It's a good sign that after 3 years of crisis the Commission and the ECB understand this is not a liquidity crisis but a solvency crisis

It is good that they finally admit it.

I think it is safe to assume that central bankers have known this for some time, considering this cable:

US embassy cables: Mervyn King says in March 2008 bailout fund needed | Business | guardian.co.uk

Since last summer, the nature of the crisis in financial markets has changed. The problem is now not liquidity in the system but rather a question of systemic solvency, Bank of England (BOE) Governor Mervyn King said at a lunch meeting with Treasury Deputy Secretary Robert Kimmitt and Ambassador Tuttle. King said there are two imperatives. First to find ways for banks to avoid the stigma of selling unwanted paper at distressed prices or going to a central bank for assistance. Second to ensure there's a coordinated effort to possibly recapitalize the global banking system.

Note the priority of a letting banks avoid the stigma of the consequences of their actions. Part of avoiding that stigma may very well be not to admit the systemic insolvency while working to make sure others (greeks, irelanders) carry most of the burden.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Tue Mar 1st, 2011 at 06:37:50 AM EST
[ Parent ]

This one never gets old.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Mar 1st, 2011 at 08:35:41 AM EST
[ Parent ]
A swedish kind of death:
King said there are two imperatives. First to find ways for banks to avoid the stigma of selling unwanted paper at distressed prices or going to a central bank for assistance. Second to ensure there's a coordinated effort to possibly recapitalize the global banking system.
Three years later, here we are. No progress on either count.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 08:49:32 AM EST
[ Parent ]
The only way banks have found of disposing of unwanted paper is to sell it to the taxpayers via corrupt and/or incompetent politicians and regulators, as in Ireland, the USA, etc. Writing down any significant portion of the toxic debt would show them to be insolvent. In the Euro-zone, a bank that wrote down bad debt would have to be "resolved" by the state. That would likely lead to sovereign default as the individual European states are not in good shape either. So, as in the USA, there is endless de facto regulatory forbearance, complete with sham "stress tests."

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 2nd, 2011 at 09:03:54 PM EST
[ Parent ]
See here: (from December 1st, 2010)
Commissioner Almunia:
"Our key message is that banks have to prepare for a return to normal market mechanisms without State support.


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 08:58:24 AM EST
[ Parent ]
European Tribune - Central Banking 101: the EONIA heartbeat
This might mean that the amount actually offered at EONIA is relatively small

Volumes are unfortunately lacking in the data we have currently...

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 08:44:28 AM EST
And, as JakeS argues, that would be a very useful piece of data
Well, that's a testable hypothesis, if we know the volume that underlies the EONIA. If the above interpretation is true, it requires the total volume (pre-sterilisation ) on the EONIA to be roughly in the same ballpark as a month's worth of sterilisation effort. It would also predict that volume should fall off a cliff once the ECB starts sterilising, and become statistically indistinguishable from nothing by the time the sterilisation effort starts running into trouble.


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 09:13:13 AM EST
[ Parent ]
Interbank lending volumes are "material nonpublic information"....

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:36:28 AM EST
[ Parent ]
Actually, it isn't. Bloomberg has an index for it, called EONIVOL.

However, unlike for EONIA rates where I was able to find a complete time series at the Bank of Spain's website, the volume doesn't seem to be freely available.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 03:41:01 PM EST
[ Parent ]
Looking at it from my perspective, your EONIA heartbeat is telling me prior to May 2010 the system was operating in a closed processing, weighted-stable, information-stagnate, environment and post May entered into an open processing information environment with more research needed to determine if it's still weighted-stable, information-stagnate.

Weighted-Stable: the value placed on "how much this bit of data matters"

Information-Stagnate: We'll ignore everything but (A1, A2, A3, ....)

Again from my perspective, the EONIA heartbeat was unhealthy prior to May 2010 and has become healthier post May 2010.  The reason being: the system is responding to - in some way - new information or taking the same information and responding in fresh ways.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Sun Feb 27th, 2011 at 01:59:58 PM EST
I am not convinced that we want the interbank market to process information. The fact that there is information for it to process at all is itself rather ominous.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sun Feb 27th, 2011 at 02:11:02 PM EST
[ Parent ]
My perspective springs from an interest in the neuro-psychology of information and as such a "un-healthy" organism does not continuously monitor and adapt to information flow

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre
by ATinNM on Sun Feb 27th, 2011 at 02:21:07 PM EST
[ Parent ]
But that presumes that there is information to react to. By the time a bank is allowed into the interbank market, there shouldn't be any idiosyncrasies left to react to. With apologies to Tolstoy: Good banks are all alike, every bad bank is bad in its own way.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sun Feb 27th, 2011 at 03:38:41 PM EST
[ Parent ]
But the EONIA is not an information processing component of a system, it is a routine interaction between "organisms" in a broader "ecosystem".

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Mon Feb 28th, 2011 at 12:39:12 PM EST
[ Parent ]
Nonlinear Dynamics, Fractals, and Chaos Theory: Implications for Neuroautonomic Heart Rate Control in Health and Disease

To appreciate the general clinical relevance of dynamics to the heartbeat, consider the following common problem. What is the best way to compare a sequence of measurements obtained from two subjects, or from one individual or experimental procedure under different conditions? Conventionally, clinicians and investigators rely primarily on a comparison of means using appropriate statistical tests. However, the limitations of such traditional analyses become apparent when evaluating the data in Fig. 1, showing sinus rhythm heart rate plots collected from a healthy subject and one with congestive heart failure. Recording the instantaneous signal from any system over a continuous observation period generates a time series. What is noteworthy in this example is that these two time series have nearly identical means and variances, suggesting no clinically relevant differences. Yet, visual inspection indicates that the two sequences of data display a markedly different organization. The healthy heartbeat trace shows a complex, "noisy" type of variability, whereas the data set from the patient with heart failure reveals periodic oscillations in heart rate repeating about 1 cycle/minute (~.02 Hz).




She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre
by ATinNM on Sun Feb 27th, 2011 at 02:32:29 PM EST
[ Parent ]
Well, I can also play that game.

This is normal ECG:

This is Arrythmia


So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 03:21:38 PM EST
[ Parent ]
I was expecting something of the sort...

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Feb 27th, 2011 at 03:14:24 PM EST
[ Parent ]
... the overnight market should not be processing information. If there is critical information in the routine situation of the bank that happens to end up on the net payments side borrowing that net payment from the bank that happens to end up on the net receipts side, that is a very bad sign.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Sun Feb 27th, 2011 at 09:53:16 PM EST
[ Parent ]
In particular, EONIA is a low rate because the net balance over the medium term is supposed to average out to zero, so it is not actually a financing rate. If a bank consistently finds itself on the short side of end-of-day clearing, other banks may soon decide to actually charge them for the cost of funding, which is considerably higher (technically, the Euribor day-to-day rate).

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 02:17:29 AM EST
[ Parent ]
In other words, prior to May 2010 the banks thought "nothing to see here, move along". It appears that, since then, every time an ECB official comes out and says they want to curtail liquidity the market goes apeshit.

I don't know if a bunch of traders with the attention span of weasels on crack can be considered an "information processing system".

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 04:39:21 AM EST
[ Parent ]
The market goes apeshit over a statement like that when liquidity is tight.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Wed Mar 2nd, 2011 at 04:07:25 PM EST
[ Parent ]
This ECB working paper (pdf) may contain useful information, I haven't had time for a proper look at it yet.

"The Euro overnight interbank market and ECB's liquidity management policy during tranquil and turbulent times", October 2010.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Feb 27th, 2011 at 04:28:00 PM EST
That one's too much for me...
by afew (afew(a in a circle)eurotrib_dot_com) on Mon Feb 28th, 2011 at 12:39:17 PM EST
[ Parent ]
by Jerome a Paris (etg@eurotrib.com) on Tue Mar 1st, 2011 at 03:15:47 PM EST
[ Parent ]
Thanks.
by afew (afew(a in a circle)eurotrib_dot_com) on Tue Mar 1st, 2011 at 03:21:08 PM EST
[ Parent ]
by Jerome a Paris (etg@eurotrib.com) on Tue Mar 1st, 2011 at 03:10:33 PM EST
Above, a Morningstar report says the ECB's last 12m refinancing operation came to an end in July. Which could explain a switch to interbank for 12m liquidity?
by afew (afew(a in a circle)eurotrib_dot_com) on Tue Mar 1st, 2011 at 03:28:22 PM EST
[ Parent ]
Reportedly there's no volume in the Euribor.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 06:06:14 PM EST
[ Parent ]
That's what my Eurointelligence piece last week was about.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Tue Mar 1st, 2011 at 06:06:37 PM EST
[ Parent ]
Wilmott.com forums: Interpreting EONIA volumes (9 March, 2009)
EONIA trading volumes are available (I think on a weekly basis). You can clearly see that the volume has dropped since the Lehman failure. Also the level of excess reserves at the ECB has risen which in combination with the fact that EONIA trades just above the ECB deposit facility suggests that banks prefer to park cash at the ECB instead of trading in the EONIA market. The London based EURONIA whos panel banks do not face the ECB trades even tighter to the deposit facility.

The ECB has flooded the market with cash (tenders with full allotment at the refi rate since october). Which means that some banks have to park the at ECB (since there is too much liquidity).

Now my question is how do you interpret EONIA volumes in terms of interbank stress? I suppose "low" volumes is bad since it indicates that banks prefer to place cash at the ECB (with a penalty since EONIA is sill higher than the deposit rate) instead of lending in the EONIA market but how can we know which volumes are low and which ones are high? Looking at historical numbers gives guidance but given that the ECB has flooded the market are they comparable? Also, how do we deal with over night cash that trades in the EURONIA market? In theory I guess all EONIA cash could move to EURONIA which would leave the EONIA market at zero volume but it would not suggest that o/n interbank lending did not work as a whole?

In the US a lot a banks have left the fed funds market since the Fed gives 25bp at the deposit facility while fed funds trades lower giving banks no incentive to participate in the fed funds market. Hence low fed funds volumes cannot be attributed to unwillingness of banks to lend to each other (since they can earn higher returns at zero credit risk with the fed). It might be a problem anyway but that is another story....



So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 03:47:28 PM EST
The ECB has flooded the market with cash (tenders with full allotment at the refi rate since october). Which means that some banks have to park the at ECB (since there is too much liquidity).

But this is nonsense. The unlimited refi is at 1 %, and EONIA traded at just over a quarter until recently. If you want to postulate that there is a single liquidity market that incorporates both these rates and permits arbitrage between them, then you have to assume that the banks who are borrowing at the unlimited refi have taken leave of their sanity.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Mar 3rd, 2011 at 03:58:56 PM EST
[ Parent ]
But that is the conventional wisdom: unlimited MRO liquidity must mean that there's lots of money slushing around, so obviously that would make interest rates drop. Trichet said so:
the EONIA is the product of market functioning and I am not surprised that it is quite close to the deposit rate, given the level of liquidity that is in the market
The fact that you are not obliged to borrow at the refi rate but choose to, and that therefore you wouldn't do so if there are lower rates available doesn't cross their minds. Euribor 1W is quoted at
1 Week 0.768 (03/03/2011)
(and it was much lower previously!)

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:35:23 PM EST
[ Parent ]
Well, if liquidity is valuable per se, it might be worth paying something for it, ie - purchase the liquidity at the 1% rate (because you can't get it anywhere else if you're seen as a bad counter-party), and park it temporarily, to deal with daily variations, at the 0.25% rate which is still better than 0%.

If enough banks are seen as weak, that would explain significant volumes going that route - it simply means that some banks don't have normal market flexibility, but have to deal via the ECB only, thus the negative spread for them. But since the alternative is near-immediate death, it's an easy choice

Wind power

by Jerome a Paris (etg@eurotrib.com) on Sun Mar 6th, 2011 at 05:48:30 AM EST
[ Parent ]
Perhaps this gives us the additional likely hypothesis to, more or less, completely explain the EONIA heartbeat:

  1. Banks are polarized into those who can get financing at EONIA and those who cannot -- based on presence or absence of perceived creditworthyness.

  2. The healthy  banks can borrow short-term at the 1% rate and lend longer term at higher rates and do. They do so and thus need to borrow overnight on the day they have to have required reserves on deposit. This drives the spike to the MRO rate for that overnight period.

  3. The weak banks fund themselves weekly at the 1% rate and park the excess at the .25% rate to earn something, as Jerome noted. This establishes the low .25% EONIA baseline rate.

  4. Sterilization reduces liquidity to the point that weak banks, who otherwise would have deposited their weekly 1% borrowings overnight at .25% instead need the money daily. This broadens the duration of the upward spike at the maintenance period.

?

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Mar 6th, 2011 at 10:31:30 AM EST
[ Parent ]
Jerome a Paris:
Well, if liquidity is valuable per se, it might be worth paying something for it, ie - purchase the liquidity at the 1% rate (because you can't get it anywhere else if you're seen as a bad counter-party), and park it temporarily, to deal with daily variations, at the 0.25% rate which is still better than 0%.

Because you suspect that the offer to borrow at 1% might dry up?

Otherwise it seems sensible to wait to borrow until you can get more then 1% for it.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Sun Mar 6th, 2011 at 02:17:33 PM EST
[ Parent ]
But I believe the insolvent banks need the full amount for the one day at the end of the maintenance period and can only get it at 1% from the ECB for one week. So they borrow for the week containing the day of the maintenance period they HAVE to have the money and then park it in EONIA on all other days in that week, at the end of which they do not borrow again until the next maintenance period. The insolvent banks would benefit greatly by EONIA rising to the weekly repo rate, as then they could, in effect, only pay for the money for the night they need it.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Mar 6th, 2011 at 05:55:30 PM EST
[ Parent ]
This would explain the otherwise ludicrous position of borrowing at 1% in order to deposit with the ECB for a .25% return

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Mar 6th, 2011 at 06:28:28 PM EST
[ Parent ]
Required reserves are remunerated at the repo rate. Excess reserves are remunerated at 0.25%. The ECB obviously intends that excess borrowing from it circulates. Conversely, the 1.75% penalty rate is intended to encourage banks to not come to the ECB for anything other that required reserves.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Mon Mar 7th, 2011 at 02:14:21 AM EST
[ Parent ]
Thanks.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Mar 7th, 2011 at 09:08:41 AM EST
[ Parent ]
So they should only withdraw required reserves and safely lend them between maintenance periods if they could do so  for more than the repo rate, which is unlikely if the healthy banks are depositing "excess reserves" at the depository rate for lack of safe, better uses for the money and THAT is what establishes EONIA at the depository rate. Possible loss of the pledged assets is what enforces discipline on their lending.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Mar 7th, 2011 at 09:31:41 AM EST
[ Parent ]
The insolvent banks would benefit greatly by EONIA rising to the weekly repo rate, as then they could, in effect, only pay for the money for the night they need it.

Should be "The insolvent banks would benefit greatly by the ECB depository rate rising to the weekly repo rate"

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sun Mar 6th, 2011 at 06:30:45 PM EST
[ Parent ]
It's possible, but unlikely. Unless the penalty rate comes with stricter requirements on the collateral than the MRO. As long as the banks can fund at the penalty rate, they should be trying to hit their expected regulatory requirement - no more, no less - on the weekly rediscounts. Then they'd eat a 3/4 of a percentage point spread on either a long or a short liquidity position at the end of the maintenance period.

Maybe they'd be a little bit biased towards excess liquidity, on the theory that they can more easily defray their losses by lending than borrowing in the overnight market. But not nearly enough to make the overnight rate drop to the maintenance rate for eight months together.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sun Mar 6th, 2011 at 11:01:09 PM EST
[ Parent ]
DJ ECB Allots EUR124.442B In Main Weekly Refi Operation At Fixed 1%

FRANKFURT, Mar 01, 2011 (Dow Jones Commodities News via Comtex) -- Demand for the unlimited short-term credit of the European Central Bank rose slightly this week, the ECB said Tuesday.

The ECB said it allotted EUR124.442 billion at its weekly main refinancing operation, up EUR4.99 billion from EUR119.455 billion at last week's tender. The allocated amount was above the benchmark allotment of EUR71.0 billion, or the ECB's estimate of liquidity banks need to conduct routine operations.

The number of bidders at the weekly operation fell further, to 182 from 189 last week and 253 the week before that.

The results reflect an increasing normalization in money markets in recent weeks, after an unexpected rise in short-term interbank rates in early February led to a surge in demand for the ECB's short-term credit.

Euro Overnight Index Average Rate, also known as Eonia, rose slightly to 0.689% Monday from 0.628% Friday, but remained far below the 1.32% reached at the start of February.

Still, use of the ECB's marginal lending facility, which charges a punitive 1.75% interest rate, remained high Monday, signaling that tension remains in parts of the euro zone's banking system.

Financial institutions borrowed EUR16.322 billion Monday via the ECB's marginal lending facility, down from a 20-month high of EUR17.115 billion Friday.

When markets are functioning properly, banks use this facility to the tune of a few hundred millions of euros.

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 3rd, 2011 at 04:21:38 PM EST
[ Parent ]
The ECB said it allotted EUR124.442 billion at its weekly main refinancing operation, up EUR4.99 billion from EUR119.455 billion at last week's tender. The allocated amount was above the benchmark allotment of EUR71.0 billion, or the ECB's estimate of liquidity banks need to conduct routine operations.
If the market asks you for 75% more liquidity than you estimate, you have two options. You can suspect your estimates might be incorrect and review your models, or you can panic about inflation.

Hey, maybe if you weren't drawing 76 billion of liquidity out of the system in an effort to sterilize bond purchases in no need of sterilization the market would actually ask you for the amount you expect...

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:27:48 PM EST
[ Parent ]
The ECB said it allotted EUR124.442 billion at its weekly main refinancing operation, up EUR4.99 billion from EUR119.455 billion at last week's tender. The allocated amount was above the benchmark allotment of EUR71.0 billion, or the ECB's estimate of liquidity banks need to conduct routine operations.

The number of bidders at the weekly operation fell further, to 182 from 189 last week and 253 the week before that.

The results reflect an increasing normalization in money markets in recent weeks

Am I the only one seeing a total disconnect between the data and the conclusion here?

Still, use of the ECB's marginal lending facility, which charges a punitive 1.75% interest rate, remained high Monday, signaling that tension remains in parts of the euro zone's banking system.

Wait, you have one hundred times normal volume on the penalty rate, and you conclude that "tension remains in parts of the euro zone's banking system?"

Imagine if all newsies exercised similar rhetorical restraint:

"American gunships fire upon the Spanish navy in the Philippines: Sign of mounting Spanish-American tensions?"

"Analyst: German occupation of Paris 'troubling'"

"Japanese officials express concern over events in Hiroshima"

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Mar 3rd, 2011 at 05:25:47 PM EST
[ Parent ]
If I am not mistaken, the start of the spike in the MLF was with €15.8bn on February 17th. This was attributed to two irish banks parking some assets at the daily MLF rather than the weekly MRO in order to keep them liquid for a sale.

Now, we're told the level is still high, peaking at €17.1bn last Friday.

I was thinking that, knowing that the two Irish banks were borrowing €16bn, other banks might choose to tap the facility in a small amount to cover their tracks. Does that explain the additional €1.3bn between the 17th and last Friday?

That would make the anomalous volume tens, not hundreds of times higher than normal. But still...

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 05:33:24 PM EST
[ Parent ]
"Japanese officials express concern over events in Hiroshima"

Hirohito: the war situation has developed not necessarily to Japan's advantage.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 05:36:08 PM EST
[ Parent ]
JakeS:
Am I the only one seeing a total disconnect between the data and the conclusion here?

No. Jumped off the screen at me.

by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 01:44:10 AM EST
[ Parent ]
DJ ECB Could Buy Assets Other Than Government Bonds - Official

FRANKFURT, Mar 03, 2011 (Dow Jones Commodities News via Comtex) -- The European Central Bank could buy assets other than government bonds to deal with specific problems in the euro zone, despite its desire to wean banks off its bond-buying program.

The ECB has never "specifically said which bonds" it would acquire through its bond-buying operation, known as the Securities Markets Program, said Francesco Papadia, the ECB's director general for market operations, in response to a question at a conference Thursday in Frankfurt.

That has "opened up the possibility [of buying] other assets," although it would "need to be something very specific that it wanted to address," Papadia said.

... signs of stress are still evident in some parts of the money markets, as reflected by use of the ECB's emergency overnight lending window, which surged to a 19-month high of EUR15.801 billion Feb. 16 and has since held close to or above that level on all but two days.

The surge was connected to Ireland's effort to wind down nationalized lenders Anglo Irish Bank Corp. and Irish Nationwide Building Society, a person familiar with the matter told Dow Jones Newswires last month.

Money markets are currently "polarized" between a majority of banks that require much less liquidity from the ECB, and a minority "in some so-called peripheral countries" that "continue to crucially depend on the ECB for liquidity," Papadia said.

...Eonia, a reference money market rate calculated by the ECB, surged above 1.3% in February but has since fallen below 0.5%, fixing at 0.472% Wednesday.

"Banks with difficulty in the market must establish plans to gradually reduce their dependence on the Eurosystem function," he said.

Papadia declined to comment on the effectiveness of the Securities Markets Program, under which the ECB has bought EUR77 billion in government bonds since last May. Some observers have criticised the program for having little impact on peripheral euro-zone bond yields.

Trichet is likely to be asked about the problem of banks being too dependent on ECB support and the surge in use of the ECB's emergency overnight lending window at a press conference later Thursday.

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 3rd, 2011 at 04:33:18 PM EST
[ Parent ]
Only sovereign bonds are toxic. That's why they say this while at the same time pressuring for the EFSF to do the sovereign bond buying.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:36:30 PM EST
[ Parent ]
ECB president says raising rates possible

FRANKFURT, Germany, Mar 3, 2011 (UPI via COMTEX) -- European Central Bank President Jean-Claude Trichet said Thursday policymakers could raise lending rates next month.

...

The ECB said it would leave rates unchanged this month with the overnight lending rate left at 1 percent.

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 3rd, 2011 at 04:36:34 PM EST
[ Parent ]
Raising rates will have a couple of immediate effects.

  1. it will push the banks currently shut out of the interbank market one step closer to restructuring
  2. it will raise the Euribor rates which are a benchmark for variable rate mortgages in some Eurozone countries

It will have no effects on inflation.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:42:19 PM EST
[ Parent ]
Euribor rates rise as ECB reviews support measures | Reuters
The three-month Euribor rate EURIBOR3MD= -- traditionally the main gauge of unsecured interbank euro lending and a mix of interest rate expectations and banks' appetite for lending -- edged up to 1.098 percent from 1.095 percent.

Six-month rates EURIBOR6MD= rose to 1.385 percent from 1.381 percent, shorter-term one-week rates EURIBORSWD= jumped to 0.768 percent from 0.698 percent while longer-term 12-month rates EURIBOR1YD= fixed higher at 1.780 percent.

Overnight rates EONIA= fell on Wednesday to 0.472 percent, remaining well below the ECB's main rate of 1.0 percent.

Reportedly, Euribor 1Y is already at 1.92% today. There goes the Spanish mortgage market...

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Fri Mar 4th, 2011 at 07:24:06 AM EST
[ Parent ]

it will raise the Euribor rates which are a benchmark for variable rate mortgages in some Eurozone countries

That will help push the price of houses down, which is the opposite of "inflation" at least for that asset category. Whether that's a good thing or not is a separate question...

Wind power

by Jerome a Paris (etg@eurotrib.com) on Sun Mar 6th, 2011 at 05:50:34 AM EST
[ Parent ]
It will also increase the delinquency rate on existing mortgages.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 08:28:25 AM EST
[ Parent ]
Money markets are currently "polarized" between a majority of banks that require much less liquidity from the ECB, and a minority "in some so-called peripheral countries" that "continue to crucially depend on the ECB for liquidity," Papadia said.

...Eonia, a reference money market rate calculated by the ECB, surged above 1.3% in February but has since fallen below 0.5%, fixing at 0.472% Wednesday.

"Banks with difficulty in the market must establish plans to gradually reduce their dependence on the Eurosystem function," he said.

Bingo.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 04:37:58 PM EST
[ Parent ]
European Tribune: Get your news five days early

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Mar 3rd, 2011 at 05:29:22 PM EST
[ Parent ]

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 3rd, 2011 at 04:44:09 PM EST
[ Parent ]
Yup, volumes went back up when the last 12-month tender wasn't renewed, in mid-2010 They had been at the lower level since October 2008.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Thu Mar 3rd, 2011 at 05:17:13 PM EST
[ Parent ]
And that last 12-month was a big one, see the excess liquidity chart below. Excess liquidity tumbles in July 2010. And EONIA volumes instantly rise.
by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 01:49:44 AM EST
[ Parent ]
The higher excess liquidity from June 09 to July 10 corresponds to the period of low EONIA stable heartbeat pattern.
by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 01:54:02 AM EST
[ Parent ]
Huh. This isn't what I predicted upthread. Higher volatility should be associated with lower volume, not higher.

Well, unless the distribution of available liquidity is even more skewed than I thought. I suppose higher volume and higher volatility could make sense if there is a core of banks with plenty of liquidity, and the consequences of sterilisation is wholly on the demand side. That would mean that the sterilisations had turned a two-tier system (liquid banks believed to be solvent and illiquid banks believed to be toxic) into a three-tier system (liquid banks believed to be solvent, illiquid banks believed to be solvent and illiquid banks believed to be toxic). But I'm not perfectly convinced that I'm not engaging in Texas Sharpshooting here...

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Mar 3rd, 2011 at 05:40:43 PM EST
[ Parent ]
JakeS:
Higher volatility should be associated with lower volume, not higher.

You have to factor in the other sources of liquidity?

by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 02:10:14 AM EST
[ Parent ]
by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 3rd, 2011 at 04:49:47 PM EST
[ Parent ]

The weekly MRO volumes, in monthly totals, from Jan 2009-Feb 2011. Based on ECB data.

MRO was being called on much less, like overnight lending, between mid-09 and mid-10. The long-term ops, particularly the 1-year big one, seem to have filled everyone's tank.

by afew (afew(a in a circle)eurotrib_dot_com) on Fri Mar 4th, 2011 at 11:52:11 AM EST
So they were right (more or less) that the low-base EONIA heartbeat was due to excess liquidity. But they were wrong about where that liquidity came from - it came from the market making of last resort, not the discount window. Now everything makes a lot more sense.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Mar 4th, 2011 at 12:09:15 PM EST
[ Parent ]
We need to find where exactly liquidity was coming from. EONIA is paltry compared to the amounts shown here, and so (now that I've taken a look) are the LTROs (1-month, 3-m, 6-m, 12-m). Only one, the June '09 12-m of 440bn, is in the same ballpark as the weeklies.

Yet in all cases the numbers went down drastically between mid-09 and mid-10, the period of the EONIA heartbeat at extremely low volumes, then rose again since. The 1, 3, and 6 month virtually disappeared during that period.

by afew (afew(a in a circle)eurotrib_dot_com) on Sat Mar 5th, 2011 at 09:13:57 AM EST
[ Parent ]
I think the 12-month LTRO might be enough to explain it.

However, if the governments are running fiscal stimulus, the government deficit shows up as a surplus for the private sector. Around mid-2010 the crisis was misdiagnosed by Germany as being due to fiscal profligacy and a round of Austerity was prescribed for all. Is that why liquidity got tighter?

When you have both the ECB running a tight monetary policy and the governments running an austere fiscal policy (under no small amount of pressure from the ECB's public statements) near the bottom of the recession, things could get really ugly really quickly.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 02:43:20 AM EST
[ Parent ]
The difficulty with the data made available by the ECB is getting a fix on how much liquidity is taken up by the banks at a given moment, since the durations of the ops are different.

I'll post a chart in a top-level comment that is no more than a sketchy attempt to show the volumes. Rather than give the MRO volumes as the total of weekly ops in the moth, I've shown them as the weekly average over the month.

Seen like that, the June 09 LTRO (and two relays later in the year) probably are enough to explain the year-long sleep of the other sources of liquidity.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Mar 6th, 2011 at 04:36:33 AM EST
[ Parent ]
This is beginning to look like a topic for the second instalment...

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 05:16:12 AM EST
[ Parent ]
Yup, this is getting long.
by afew (afew(a in a circle)eurotrib_dot_com) on Sun Mar 6th, 2011 at 05:24:54 AM EST
[ Parent ]

The MROs are presented as the weekly average over the month. The LTROs are absolute.

by afew (afew(a in a circle)eurotrib_dot_com) on Sun Mar 6th, 2011 at 04:40:39 AM EST
  • At the moment, a decreasing number of borrowers are taking increasing amounts of money from the ECB at the repo rate. This seems to correspond to banks in "peripheral" EU countries, obliged to pay a higher rate than they would pay if they were deemed creditworthy by other EU banks.
  • These banks would seem to have solvability problems. Pumping them full of money at 1% serves to disguise this as a liquidity problem, but presumably can't go on forever.
  • These banks ought to be restructured, but everyone is too scared to pull the trigger on them (?)
  • Hypothesis : The ECB has an implicit brief to keep the EONIA as low as possible in order to avoid (worsening) meltdown in countries with variable-rate mortgages indexed on it?
  • Question : which countries? And are there critical levels that could trigger specific national real estate collapses?


It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II
by eurogreen on Sun Mar 6th, 2011 at 08:22:53 AM EST
This seems to correspond to banks in "peripheral" EU countries

Well, not entirely. Just this past Thursday, Francesco Papadia of the ECB said

some banks, particularly in the so-called peripheral countries of the euro area, continue to crucially depend for their liquidity on the European Central Bank
Emphasis on particularly. Which can be interpreted as meaning that not all troubled banks are in the "periphery" and/or that not all "periphery" banks are troubled. There is reason to believe the solvency problems are not limited to the "periphery":
Germany lost out in the Basel III negotiations, because the agreement would force German banks to raise large amounts of real capital. ... The Basel III proposals envisaged that only equity and retained earnings count as core tier 1 capital, while Germany wanted to recognise silent capital as well. Without the use of silent capital, Germany's morose banking system would implode. The entire Landesbanken sector would disappear. Large parts of the German banking system are not merely undercapitalised. They are effectively un-capitalised.

These banks would seem to have solvability problems.

The market believes they are insolvent. That doesn't mean they are, as runs can be self-fulfilling. Unlimited ECB liquidity allows a solvent but illiquid bank to continue to function as long as it has sufficient collateral for ECB repos. The bank having sufficient repo collateral to borrow from the ECB enough 1-week cash to meet minimum reserve requirements, and fund its normal operations while maintaining regulatory capital ratios would seem to meet a reasonable definition of solvent. It might still be shut out of the interbank market by other banks. Without unlimited ECB liquidity, a bank could quickly eat up its capital in the course of its normal operations until it becomes insolvent.

These banks ought to be restructured, but everyone is too scared to pull the trigger on them

It is apparent the EU as a whole and the individual member states are lacking a proper bank resolution scheme. This is the problem the EU should be addressing, not so-called (but nothing-but) "competitiveness" pacts.

Hypothesis : The ECB has an implicit brief to keep the EONIA as low as possible in order to avoid (worsening) meltdown in countries with variable-rate mortgages indexed on it?

The ECB has no influence on EONIA other than to set the interest rate band within which it moves. Arguably the ECB's mandate is first and foremost one of price stability. It's unclear who at the EU level has a mandate and authority to oversee and foster financial stability. Obviously, variable-rate mortgages are a source of financial instability.

Question : which countries? And are there critical levels that could trigger specific national real estate collapses?

Spain in particular indexes mortgages to Euribor 1Y.

Note also that a lot of corporate lending (including project finance) is indexed to Euribor 3M, Euribor 1M, or other variable rates. Rising interbank rates tend to make lending more expensive for everyone.

Generally, I wouldn't agree with your takeaways nor with the way you prhased them.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Migeru (migeru at eurotrib dot com) on Sun Mar 6th, 2011 at 09:06:10 AM EST
[ Parent ]
You don't like my takeaways? No problem. I'll try again.

Sorry, I confused EONIA and Euribor. I need proof-reading. Nevertheless, that inspired me to take a peek at historical data, and it looks to me that the Euribor 12 month and the Euribor both follow the ECB Repo, no? (on a very macro level!) i.e. as you say, they determine the band within which it moves.

EURIBOR 12 month :


i.e. the repo rate finds its way into mortgages, very directly in the case of variable-rate ones.

But euribor and eonia are now trending sharply upwards, without a change in ECB rates.
EURIBOR 12 MONTH LAST YEAR:

 So who's driving who? Are the market rates going to force the ECB to raise its rates? I thought it was supposed to be the other way round. Is this a naive question? (Where does a bear shit?)

Given the already high rate of distress and default on mortgages, in Spain and elsewhere, and given that Euribor is at historically low levels, it's clear that if it went to 3 or 4%, there would be mayhem. For businesses as well as mortgagees, obviously.

It's unclear who at the EU level has a mandate and authority to oversee and foster financial stability

Fascinating remark... and I thought it was just me being thick! Is there any advantage in terms of public policy in maintaining non-transparency around such vital issues? I can see real value in opacity if you're a well-informed speculator, but in terms of public good...?  

Obviously, variable-rate mortgages are a source of financial instability.

I've always thought they were the Devil Incarnate. They encourage profligacy and short-termism in both the producer and the consumer. Personally, if I had taken a variable-rate mortgage instead of a fixed one in 2004, I would have been shitting blood for a few years. Is there any downside to outlawing them in the EU?

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II

by eurogreen on Sun Mar 6th, 2011 at 10:01:41 AM EST
[ Parent ]
eurogreen:
 So who's driving who? Are the market rates going to force the ECB to raise its rates? I thought it was supposed to be the other way round. Is this a naive question? (Where does a bear shit?)

I think it is a good question.

It is supposed to be central bank that drives market, but I think I read a quoted article here on ET that claimed the opposite. With central bankers that worship the intelligence of the market that to would be unsurprising.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Sun Mar 6th, 2011 at 02:23:12 PM EST
[ Parent ]


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