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More wheels coming off the European Central Cart: The ECB's Risky Business by Daniel Gros
Now that the "southern" eurozone governments' solvency no longer seems assured, distrust has grown along national lines. German banks continue to lend to each other (and to other banks in northern Europe), but they are no longer willing to lend to Italian, Spanish, or other banks in southern Europe.

A sudden withdrawal of interbank funding has the same consequences as a bank run. A bank that suddenly has to repay its interbank debt must cut credit to its own customers or sell off other assets, leading to large losses. This is precisely what happened when the interbank market froze after Lehman Brothers collapsed in 2008.

When the cross-border interbank market stopped working this summer, a similar economic collapse was avoided only because the ECB, without much fanfare, became the eurozone's central clearing house. German and other northern European banks that no longer trust their southern counterparts parked their funds at the ECB's deposit facility, whereas southern European banks used the ECB's lending facilities to make up for the loss of private interbank funding.

tens of millions of people stand to see their lives ruined because the bureaucrats at the ECB don't understand introductory economics -- Dean Baker
by Migeru (migeru at eurotrib dot com) on Mon Dec 19th, 2011 at 06:01:29 AM EST
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