The LTRO and other evils

Written by Walter A. Marlowe Friday, 30 March 2012 07:23
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Walter is the author of the forthcoming Thematic Investing (Searching Finance, October 2012)

As many of you know the “LTRO”, a medium term bank funding facility made available by the European Central Bank (the ECB), is the Eurozone’s version of quantative easing (QE) and is a “work-around” of Eurozone regulations and political issues which made straightforward US and UK style money printing QE impractical.

LTRO has bailed out the Eurozone’s banking system by filling the funding void created by the collapse of the interbank funding market; banks just don’t want to lend to each other as in the past. Without the LTRO the Eurozone’s banking system would have needed to be extensively “shrunk” in balance sheet terms because of the lack of debt funding to support the asset side of bank balance sheets; asset accounts containing lots of dead and distressed but unwritten-off assets.

The LTRO’s most recent auction of 1% three year funding was massively subscribed by a wide range of top tier, second tier and troubled banks. In light of the fact that the ECB can legitimately argue that the LTRO is a cheap and efficient form of bank bail-out and is designed to “tide over” the banking system until confidence and liquidity returns to the interbank market what’s bad about LTRO?

This is what’s bad about LTRO:

  • It is potentially as inflationary as bog standard QE
  • However, it’s also deflationary in that all that LTRO cheap funding is simply being used by recipient banks to then buy government bonds and  to re-deposit funds with the ECB – little productive use (e.g. like lending to companies) is made of the billions of Euros of funding provided
  • “Zombie” banks are being artificially kept alive – we all like to criticize the Japanese noting that the continued decline of the Japanese economy is in great part a product of keeping zombie banks alive and then we go and do exactly the same thing ourselves. Clearly, we like repeating history rather than learning from it
  • It’s valid to question to ask, can the interbank lending market ever be restored to pre 2008 liquidity levels? – LTRO has the potential to become like a narcotic for Eurozone banks and the LTRO habit is going to be hard to break – LTRO funding is cheap and available to the most botched –up banks (as well as creditworthy institutions),  virtually no questions asked – it’s the banking equivalent of methadone
  • Lastly, LTRO is just another form of the “privatization of profits and the socialization of losses” just like the US bank and industry bail-outs. Banks in the Eurozone now get cheap funding just because they need it, not because they merit it. They then “buy” the spread between their cheap funding and government bonds, no risk and no brains, they make profits and they pay themselves bonuses and at a time when banks are paying virtually no meaningful dividends.


This would all be fine for commercial banks / clearing banks in a Glass Steagall  / pre  Big Bang era when commercial banks were akin to utilities in the role they played in the economy, but they aren’t  structured or regulated as utilities anymore and they shouldn’t be treated as such at taxpayer expense .

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Last modified on Friday, 30 March 2012 07:36

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