Tuesday, January 17, 2012
Central bank independence at risk from financial crisis, warns UBS
The European Central Bank faces the most severe problems, warn UBS analysts, who said the ECB's increasing exposure to struggling eurozone lenders risked putting it in a position whereby it might require its own capital boosted in future.
In recent months, the ECB has significantly relaxed the collateral requirements on banks that borrow from it, leading to fears that new losses in the banking system could quickly eat into its capital base.
"It is possible that a series of eurozone sovereign or banking defaults could simultaneously erode the capital position of the ECB and those of some of its shareholding national central banks," said the analysts.
A report from Credit Suisse analysts last week highlighted the growing disparity in the relative size of the ECB compared to the Bank of England and the US Federal Reserve.
The BoE and the Fed have both undertaken massive quantitative easing programmes that have greatly expanded the size of their balance sheets from less than 10pc of domestic GDP to just under 20pc.
However, the ECB's financial support programme for eurozone banks has seen its balance sheet balloon since November to close to 30pc of its members' combined GDP.
While UBS admits that the possibility of the ECB being unable to act as a provider of liquidity to the financial system is remote, the possibility that a small number of stronger eurozone countries could be called upon to provide more financial support for the central bank is real.
"In the event that losses wipe out too much of their capital, the chief risk becomes the intrusion of politics into central banking. It might even bring about the end of independent central banks," warned the UBS report.
Unlike the BoE and the Fed, the ECB is not explicitly backed by its shareholders, which comprise the European Union's 27 national central banks.
"The history of the eurozone crisis has not offered many reassuring examples about the speed and effectiveness of eurozone political decision-making," said UBS.
The BoE has been clear in ruling out new measures to support Britian's major banks and has continued to impose much tougher collateral requirements on lenders than the ECB.
Last month, eurozone banks borrowed €489bn (£405bn) under the ECB's new three-year lending programme. Credit Suisse is forecasting that bank borrowing using the scheme could more than double to more than €1 trillion in February when lenders are offered a second chance to access the programme.
Analysts at Citigroup have pointed out that ECB moves to allow banks to use loan portfolios as collateral to borrow from it could create a potential collateral pool worth about $11.7bn (£7.7bn).
The decision by US ratings agency Standard & Poor's to downgrade several of the eurozone's largest members on Friday will not impact the valuation applied by the ECB to sovereign bonds used by banks to borrow from the central bank.
Citigroup analysts said the S&P downgrade of countries, including France, Austria, Spain and Italy, would not lead to haircuts on the value of their sovereign bonds used as collateral by lenders to access ECB funds.
However, Citigroup warned that should the countries ratings suffer a further downgrade by another of the world's three major ratings agencies it would lead to haircuts, forcing banks to post more collateral with the ECB.