Although significant global risks remain, markets reacted positively yesterday to the world’s leading central banks agreeing to lower the cost of accessing US-dollar swap lines by 50bp. What this means is that the US Federal Reserve will provide unlimited dollars to the European Central Bank (ECB), which will then on-lend the money to European banks, and at a cheaper rate. This is a positive in that it reduces the immediate funding strain on European banks, and makes it easier for them to fund dollar positions while these positions are being liquidated or deleveraged. It is also a positive development if this is the first step in central banks taking more concerted actions to support the European banking system. Other steps still need to be taken though, and it is possible that the ECB begins to address this at its upcoming December 8 meeting.
However, these recent policy movements don’t materially change the fundamentals, but simply remove part of the tail risk. The reality is that Europe needs coordinated government support. The central banks’ actions are really the course of least resistance. The real story will come if and when central banks start buying European debt in a coordinated fashion; for it is the rising imbalances in the sovereign debt markets more so than bank funding that is at the heart of the Euro area’s problems.
Marc Whittaker