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ECB zero deposit-rate shakes EU banking system and forces to look for alternatives

Thursday, July 12th 2012 - 22:35 UTC
Full article 3 comments
ECB President Mario Draghi and advisors hope for an increase in bank lending ECB President Mario Draghi and advisors hope for an increase in bank lending

European Central Bank's new zero deposit rate had an instant impact as it came into force, with banks more than halving the amount of cash parked there overnight and one ECB policymaker saying he expected the move to increase banks' lending.

The unprecedented deposit rate cut to zero means banks will now get nothing if they park cash at the ECB, and the bank hopes it will nurture a return of more significant inter-bank lending by encouraging banks to look for more profitable options.

Banks' reluctance to lend to each other for fear of not getting all their money back has prompted them to park money at the ECB. The sums they deposited there were boosted after the central bank unleashed over 1 trillion Euros into the financial system with twin lending operations in December and February.

“Especially the fact that the deposit rate was reduced to zero provides an incentive for the banking system to look what alternatives there are to improve their earnings,” ECB Governing Council member Josef Bonnici said.

“This may lead to greater borrowing, especially in some member states,” he told reporters on the sidelines of a central bank conference in Casablanca.

An increase in bank lending could breathe life into the flagging Euro zone economy, which the ECB said in its monthly bulletin was weak and suffering from “heightened uncertainty” that was weighing on confidence.

Wednesday was the first day under the new ECB zero deposit rate set-up.

Figures published by the bank showed banks parked 325 billion Euros overnight, well down on both the 800 billion they left there the previous day and the 700 billion they deposited at the same point of the last reserves period in June.

The latter comparison is probably the best. At the start of monthly reserves cycles banks have more options to juggle their funding so their deposits at the ECB tend to dip before building back up through the month.

The decision by the ECB to cut its main refinancing rate to 0.75% and stop paying interest on overnight deposits -before the cut banks got 0.25%- is also one factor driving the Euro to this week's two-year lows against the dollar. That weakness will aid Euro zone firms by making their goods cheaper for foreign buyers.

ECB President Mario Draghi has said he expects the zero rate to have little impact on what banks and other investors do with their spare cash.

Last month the ECB money market contact group -- a mix of around 20 top traders and a handful of top ECB experts -- warned that the move could hurt inter-bank trading, push banks out of Europe and further damage their profitability.

Some top money market funds have closed their doors to new business since the cut, worried that they cannot provide returns for investors given the lack of a base return on funds held with the Euro zone's central bank.

ECB policymaker Jozef Makuch told reporters on the sidelines of a conference in Vienna on Thursday the bank is not discussing narrowing the gaps between its main interest rate and the overnight deposit and lending rates which straddle it,

The ECB decided last week to cut its main refinancing rate by a 1/4 point to 0.75% as well as reducing its deposit rate by the same amount to zero.

Categories: Economy, International.

Top Comments

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  • briton

    A great move,

    alas, it does not solve the underlying problems,
    if the banks are scared to lend in case they lose it,, they wont lend,
    its that simple, perhaps if the ECB guranteed the loan, then perhaps, it might work,

    still time will tell,
    come next week, give it a while and see what happens .

    Jul 12th, 2012 - 10:47 pm 0
  • JoseAngeldeMonterrey

    And what if European financial institutions, business enterprises and individuals chose to look overseas instead of putting the money into recessionary and high-risk European economies? What if they take their music to Brazil, Mexico, Peru, Indonesia, Colombia, these are all countries with better economic outlook than any most European nations and all of them offer above 5% rates.

    And what is the ECB going to do in the event of a new black swan in the form of Italy or France? with zero interest rates the ECB and Europe have ran out of monetary policy options.

    The US is not better either, with an interest rate of 0.25% they have nowhere to go either, they went from almost 20.0% in 1980 to almost nothing in 2012, Alan Greenspan became the hero of the Clinton era, but he indulged in cuts and cuts, to fix every single little economic slump, via monetary policy and please the markets who happily rushed every time to cash in their stocks, of course he was a hero, and many warned him at the time that he was leaving the FED without any tools when future crisis came, he and Clinton behind him argued that they were all in the famous “new economy”. It turns out they were not. Bernanke came and continue playing the good kid in the block, and silly European central bankers only danced the same song, now both the FED and the ECB are useless. And where will Wall Street and the investor community find solace? China´s banking system in the ropes too.

    Spain, England, France, Italy, Portugal, etc, they could privatize thousands of useless and futile assets, including expensive European television and radio stations that produce boring content that nobody in the world buys.
    Now that that central banks are but ornate institutions of 0.0% rates, the ball is now on the field of politicians the like of Angela Merkel, Mariano Rajoy and François Hollande, sadly, characters completely unprepared and unwilling to face the challenges ahead. Goodbye good old days.

    Jul 13th, 2012 - 03:00 am 0
  • Ayayay

    GREAT analysis & interesting countries to mention! The CMA sovereign risk report q3 mentions them too. Greece, Cyprus, Argentina, Portugal, Pakistan are the top 5 at risk worldwide.

    Privatisations could help, kinda interesting considering. :)

    Jul 13th, 2012 - 06:26 pm 0
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