The European Central Bank handed out $712.4 billion in low-interest loans to banks in the second round of a massive credit infusion that has been credited with easing the eurozone debt crisis.
The volume of loans was slightly higher than the (euro) 489 billion ($657.9 billion) handed out to 523 banks at the first offering on Dec. 21. This time 800 banks took the money after European Central Bank head Mario Draghi assured that there was “no stigma” associated with tapping the offering.
The ECB loans, given against collateral such as bonds or other securities, cost banks the average of the ECB’s benchmark rate over the life of the loan. Right now that’s 1 per cent.
Analysts had expected slightly less uptake than for the first offering. Market response was muted, with the Euro Stoxx 50 index up 0.42 percent and the euro off 0.2 percent at $1.3442 in afternoon trading in Europe.
The first round of loans back in December had helped ease the pressure on hard-pressed governments such as Spain and Italy, which had been struggling to maintain large amounts of debt. Banks used the ECB loans to buy up government debt they previously wouldn’t have touched because of the debt’s high yield — the level of interest a government would have to pay on its debt and an indicator of risk. The added demand for the debt helped lower the yields and thereby calmed fears of a looming market meltdown.
The burst of cash also removed fears that a European bank might collapse because it couldn’t pay off bonds or other debt coming due. Following the first credit infusion, bank funding markets that had been frozen began to thaw, as some banks were able to borrow by issuing bonds.
More crucially for eurozone governments, some banks in financially pressed countries also appear to have used the cheap money to buy government bonds.
Bank demand drove up bond prices and brought down bond yields, since yields and prices move in opposite directions. That cut borrowing costs, especially on shorter-term bonds, for governments such as Spain, Italy and Portugal.
Several analysts said the ECB’s second credit offer was unlikely to provide much more relief to governments. “Given that there are no further tenders scheduled and the recent ECB rhetoric has been skewed toward this being the last, we believe the market will return to fundamentals and move away from this liquidity euphoria,” analysts at Royal Bank of Scotland wrote in a research note.
High borrowing costs have been a key driver in the eurozone debt crisis. Greece, Ireland and Portugal all had to turn to other eurozone governments and the International Monetary fund for bailout loans when they could no longer borrow at affordable rates.
The ECB’s credit action combined with other factors to improve the situation. Eurozone leaders agreed Dec. 9 on a new treaty to restrict future government debt buildups, and agreed on a new bailout loans for Greece after a 2010 bailout failed to put the country back on its feet. Greece also won agreement from its creditors for a reduction in the face value of their bond holdings of 53.5 percent, substantially cutting the country’s debt load.
The easing of borrowing costs gives the new governments of Spanish Prime Minister Mariano Rajoy and Italian Prime Minister Mario Monti time to push for reforms to their labor markets aimed at making their economies more productive and business friendly. That should increase growth and tax revenues, but the measure will take years to take effect.
While they have steadied markets, the ECB loans have had less effect in stimulating bank lending to the wider economy. Loans to businesses only stabilized in January after a steep fall in December. Central bank officials are watching closely to see if their efforts result in more bank lending.
Sony Kapoor, managing director of the Re-Define think tank in London, said that “whether they use it to fund a carry trade or to lend more to the real economy will strongly shape what direction the crisis take next.”