Central banks’ dollar move – new credit crunch avoided or papering over the cracks?

16th September 2011

That is MSNBC's the Bottom Line's take and many commentators are making much of the fact it is the three year anniversary of Lehman's collapse.

It writes: "As European banks find it increasingly harder to get cash they need to operate, central banks from around the world opened their vaults Thursday to head off another credit crunch like the one that crashed the financial system in 2008 and sent the global economy into a deep recession."

The European Central Bank, the US Federal Reserve, the Bank of England, Bank of Japan and Swiss National Bank have all undertaken to offer three month dollar loans – as some of Europe's banks struggled to access funding from their peers in the US. Other financial institutions had been worried about the prospects for some Euro zone banks, in particular if Greece were to default.

It also quotes IMF boss Christine Largarde saying: "After a year and half of failed attempts at a solution, the world economy has entered a "dangerous new phase. Without collective resolve, the confidence that the world so badly needs will not return."

However dangerous or not, markets were certainly a lot happier yesterday and this morning as Reuters reports here. It also notes that the FTSE is close to putting some of the recent market woes behind it.

It writes: "Technical analysts were bullish on the FTSE 100 index in the wake of Thursday's strong advance, which puts it within striking distance of the Aug. 31 close of 5,394.53, a move through which will mean the market has erased the sharp sell-off from earlier in the month."

CNBC quotes Paul Donovan, global economist at UBS offering some calming words. He says: "There's clearly been stress in the bank funding markets in the euro zone, there's no question of that. On the evidence that I have seen, that stress is nothing like what it was in 2008. The banking system is functioning still. Money can be borrowed, it may not be borrowed at the terms one wants, it may not be borrowed at the duration one wants if you are a euro zone bank, but it can be borrowed."

The Telegraph gives a run down of analysts globally. We quote one bull and one bear from its list below

Marc Ostwald, strategist at Monument Securities says: "This sort of liquidity flood implies that current funding pressures, and in the event of a Greek default some even larger pressures, are threatening to completely destabilize western financial markets."

Brian Jacobsen, chief portfolio strategist at Wells Fargo Funds Management says: "The central bank coordinated action is rather significant. We can take a little confidence in knowing that when money market funds or banks are unwilling to expand liquidity to each other, that central bankers are willing to step in and fill that void."

On the Wall Street Journal Vincent Cignarella cuts to the heart of the Euro banks' funding dilemma, noting that these loans are a very expensive solution. He asks: "Why would a bank use the dollar swap lines that the ECB shored up via a joint agreement with the Fed and other central banks Thursday, when they carry such an expensive rate and it is cheaper to borrow in the open market? Answer: the bank cannot raise funds in the open market. As one trader from a European bank put it, "When you are in the desert dying of thirst and someone offers you apple juice, do you turn it down because you would prefer something other than apple juice?"

But he expects further developments.

He writes: "There are rumours that the US Treasury will suggest to Europeans a form of TALF program. Under the Fed's Term Asset Lending Facility, introduced in the midst of the Lehman crisis, issuers of new asset backed debt could borrow directly from the Fed, all in a bid to keep consumer lending going and sustain growth. TALF did prevent catastrophic failure but three years later, it did little to spur growth. You can give banks money but you cannot make them lend.  For Europe the facility would have to be a sovereign one."

The problem with creating such as fund in Europe is that there remains a risk of default of these bonds if Greece or other countries cannot pay them back. That means the liability falls back on the EFSF and taxpayers in Europe take the hit.

It is certainly not a signal for a bear market according to some managers.

Trade site Fundweb reports the views of Fidelity's portfolio manager Trevor Greetham who says: "Liquidity support will not remove solvency fears as these relate to Greek default and its possible knock-on effects. It's also worth remembering it is the slowdown in global growth over 2011 that is putting increasing pressure on the European periphery and lead indicators suggest that slowdown is still in place."

More from Mindful Money:

A Guide to Central Bank foreign exchange liquidity swaps

Central Banks yet again ride to the rescue of private-sector banks with taxpayers money

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