Trichet ‘Trapped’ by Banks’ Addiction to ECB Cash: Euro Credit

Yes, as previously discussed, the ECB is now dictating terms and conditions to both the banking system and the national govts with regard to fiscal policy.

The fundamental structure of the eurozone includes no credible bank deposit insurance that now keeps the bank dependent on direct ECB funding. It also includes national govts that are in the position of being credit sensitive entities, much like the US states, only now with debt ratios far too high for their market status who are now directly or indirectly dependent on ECB support via bond purchases in the open market.

And there is no way out of this control for the banks or the national govts. There will be large deficits one way or another- through proactive fiscal expansion or through automatic stabilizers as attempts to reduce deficits only work to a point before they again weaken the economy to the point where the automatic stabilizers raise the deficits as the market forces ‘work’ to obtain needed accumulations of net euro financial assets.

This inescapable dependency has resulted in a not yet fully recognized shift of fiscal authority to the ECB, as they dictate terms and conditions that go with their support.

Yes, the ECB may complain about their new status, claim they are working to end it, etc. but somehow I suspect that deep down they relish it and announcements to the contrary are meant as disguise.

In the mean time, deficits did get large enough the ‘ugly way ‘in the last recession to now be supportive of modest growth. And even the 3% deficit target might be enough for muddling through with some support from private sector credit expansion which could be helpful for several years if conditions are right.

Also, dreams of net export expansion are likely to be largely frustrated as the conditions friendly to exports also drive the euro higher to the point where the desired increases don’t materialize. And the euro buying by the world’s export powers, though welcomed as helping finance the national govts., further supports the euro and dampens net exports.

Trichet `Trapped’ by Banks’ Addiction to ECB Cash: Euro Credit

By Gabi Thesing and Matthew Brown

October 7 (Bloomberg) — European Central Bank President Jean- Claude Trichet staked his reputation on propping up banks with cheap cash during the financial crisis. Now credit markets won’t let him take away that support.

Near-record borrowing costs for nations across the euro region’s periphery are making it harder for the ECB to wean commercial banks off the lifeline it introduced two years ago.

The extra yield that investors demand to hold Irish and Portuguese debt over Germany’s rose last week to 454 basis points and 441 basis points respectively. Spain’s spread hit a two-month high.

The risk for the ECB is that it gets pulled deeper into helping the banking systems of the most indebted nations in the 16-member euro bloc. Governing Council member Ewald Nowotny said Sept. 6 that addiction to ECB liquidity is “a problem” that “needs to be tackled.” Complicating the ECB’s task is that interbank lending rates have risen, tightening credit conditions and making access to market funding more expensive for banks.

“The ECB is trapped and the exit door is blocked,” said Jacques Cailloux, chief European economist at Royal Bank of Scotland Group Plc in London. “The state of credit markets is going to force them to stay in crisis mode for longer than some of them would like.”

The ECB’s 22-member Governing Council convenes today in Frankfurt. Policy makers will set the benchmark lending rate at a record low of 1 percent for an 18th month, according to all 52 economists in a Bloomberg News survey. That announcement is due at 1:45 p.m. and Trichet holds a press conference 45 minutes later.