Is the European Central Bank (ECB) Europe’s AIG?
In other words, will the ECB be left holding the can, having lent all this money to the peripheral countries in order to save rich banks in Germany and France, in the same way as insurance giant AIG was destroyed by the sub-prime market?
If you remember back to the Lehman crisis, it was the collapse of AIG that really spooked the world’s financial markets. It had recklessly insured most of the toxic waste of Lehman’s and other banks’ balance sheets – all the sub-prime mortgages and worse.
When they all defaulted, the damage went straight on to AIG’s balance sheet as the insurer of last resort.
The ECB in 2011 is beginning to look Like AIG in 2008. It is certainly also beginning to sound not like an institution that is in control, but an institution that is beginning to panic.
For example, speaking on Thursday, executive board member of the ECB, Lorenzo Bini Smaghi (who, despite sounding like a character from Lord of the Rings is actually an Italian economist) opined that high-debt countries must stick to the terms of their bailouts. If they don’t, they risk having their banks cut off from ECB capital measures. Surely this is not how central banks work?
There are two things worth noting about this statement. First, why does an executive board member of the ECB think it is part of his job to place political pressure on democratically elected governments in Europe? He is a civil servant, nothing more.
He should leave the political manoeuvres to people with an electoral mandate.
Second, why is the ECB worried about whether the Greeks default or not? Currently two-year Greek bonds are yielding 25 per cent. There is a good reason for that – everyone knows that Greece is about to default.
Of course, if everyone knows this, then so does the ECB. And if the ECB knows this, it has to be placing very large haircuts on the value of Greek bonds when it accepts them as collateral for liquidity operations. It makes sense that when Greece is on the verge of default, the central bank which is taking Greek assets as collateral should be only giving the Greeks a fraction of the face value of these asset because the risk of holding them and giving real money in return is enormous.
Interestingly the ECB is not applying these haircuts. It emerged in an article in German magazine Der Spiegel this week that the ECB is not placing correct haircuts on the bonds. It is not looking at this collateral and saying, ‘‘This is risky stuff and we are not giving you good money for bad collateral’’. It is making the same mistake that the financial market- and AIG in particular – was making before 2008.The ECB is mispricing risk and it is beginning to panic.
In 2008, many banks in Europe were caught holding assets that had little or no value.
For example, an Irish bank had lent out €3 million for a field in Athlone which was falling in value towards €100,000. Because of the so-called ‘systemic value’ of financial institutions – meaning that one bank might bring down other banks, and risk damaging the euro, the ECB decided that no bank in Europe should be allowed to fail.
So, instead of letting banks collapse and risking a run on the euro, the ECB stepped into the market. It did what the Leaving Cert economics tells you a central bank should do during a financial crisis: it acted as lender of last resort to the troubled institutions.
This worked for some banks as it gave Them a chance to trade out of their difficulties. With extra government capital injected in the crisis in the form of equity, many European banks are today in a position where they no longer have to rely on the ECB to get liquidity.
They are credible enough to go to the market and raise the money they need from private sources – namely other banks or other investors.
But, as this column argued as far back as 2002, the flaw in the eurozone was that countries like Ireland and Greece would get too much credit in the boom and too little in the bust, rendering them bankrupt in the downturn. Because of this, our banks are still unable to access funding from the market. No one bar the ECB will touch us.
The ECB now finds itself holding nearly €300 billion of ‘assets’ from Greece, Ireland and Portugal. But the assets are not worth €300 billion. It has some buffers in place from the haircuts or discounts it has imposed on those assets. But if the haircuts are less than 100 per cent, they are not big enough for a major default event, as is now likely in Greece.
So what is the ECB to do? It now finds itself holding the can for the mistakes made by the commercial banks upto 2008, and by itself since 2008.
This would be extremely worrying if it were a bank, but of course it is not a bank in the normally understood meaning of the word. It is a central bank and this means there is one important difference. The ECB does not have to ‘earn’ money to have money – it can simply print it.
So, let’s play out a scenario. The Greeks default. This means that the ECB has to take a loss on its ‘balance sheet’ of €50 billion. For a normal bank, this would mean the bank would be bust. But the ECB’s balance sheet is a strange beast. The ECB makes its balance sheet balance, not the other way round.
By this, I mean the ECB looks at its liabilities and creates assets to match. It really is that simple. So if the ECB finds itself taking a €50 billion loss, it can go to its member central banks and ask them to get the money from their governments. Or it can write €50 billion into the assets side of its balance sheet and bother nobody about the loss.
This is what Ben Bernanke, chairman of the Federal Reserve, has done in the US – and the world hasn’t ended there. It is what the ECB should do here, and you can bet that the world won’t end here either.
But the really worrying thing is that you have central bankers who don’t seem to understand central banking – now that is a problem.
When you print the cash, you are the boss, you can do whatever you like to solve a crisis.
For example, our central bank in the 1980s continued to accept government debt for cash, even when the government was issuing debt as if it was going out of fashion. The ECB can do the same thing.
The issue is not about rules and regulations any more, it is about a mindset shift. The ECB top brass has to understand that the world has changed.
They have to see the world not as they would like it to be, but as it is. Then once they have done this they need to stop panicking and appreciate that the solution is in their hands.
The ECB should stop shouting stupidly at politicians and begin to behave like the true, credible institution it so desperately craves to be.
PS: I am travelling today to Argentina for business, but I will keep you posted on the website and here on what a country that has defaulted looks and feels like.
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1992 / Maastricht Treaty – 1993 / USA switched to SNA, The Golden Calf of Hedonic Pricing is born or…, Austerity is an ideologically locked in dogma, it constitutes social genocide. Summary: Austerity is a destructive force, useless as a solution to the debt crisis and constitutes a forced upon scheme by those who are clutching at ideological dogmas based on accounting fraud, insufficient and flawed economic models. Any further austerity or sale of peoples assets needs to be rejected loud and clear! Weekly Suggestions: 1. Media critic should become an important and integer part of school curricula, to enable… Read more »
Memo to David McWilliams
Printing money will only lead to hyper-inflation. The USA is as good as finished, and everyone, even the politicians will be able to see that within a year. Only the deluded or poorly informed could possibly think otherwise.
I normally really like your articles, but your lack of knowledge in the broader economic sense is somewhat disappointing. You should read up on people like Gonzalo Lira, especially his hyper-inflation posts. It’ll educate you.
Print-Baby-Print. By the looks of matters with respect to real estate inflation in Western German cities like Hamburg and Munich, the ECB is already in druck-maschinen mode. [In the boom you could see people walking through Dublin Airport bringing printers from their trips to Germany, because they were half the price being charged in Dublin]. The Krugman Doctrine – Borrow-baby-borrow. The Bernanke Doctrine – Print-baby-print. The Trichet Doctrine – keep pretending that you are more serious than the other two, that you are a hawk, and be just as useless as the two of them. The fact is that since… Read more »
Read Tom McGuirk’s article yesterday and it is fascinating in the context of Lenihan, NAMA and the Icelandic approach.
In fact it verifies the sense of the Icelandic approach.
But don’t worry. We are not going to do anything that renegade here. We are going to do as we are instructed. We fall into line. Nationally as well as individually, the Lemming is the one who is presented as the ideal behavioural model.
[…] McWilliams latest article Memo to ECB: print money is right if a little simplistic. The ECB has been crediting banks – their version of […]
ECB printing would not and will not solve the crisis. All the printing thus far by the ECB and the FED etc has only delayed the end-game. The end will come when people begin to wake-up and realise how insane it all is.
People have lost perspective on life. They were duped into an economic myth; the myth of the Golden Calf of the market; which is now collapsing; and threatens to take everyone and everything down with it.
So long as we believe the myth we will be enslaved to it.
The ECB does not have to print money like the FED
The BIS acting as the dealer could mount and I believe will mount a physical gold auction for cash from the CBs and other big players.
They could fix the Euro problem over a dirty weekend in Basel.
It would finish the dollar as the worlds reserve currency however.
Hence the IMF/dollar – ECB/BIS friction.
Roosevelt did something similar when he nationalised the Gold in the US treasuary – it will be done again.
At 10,000 Euros a ounce the ECB will have a lot of cash……………..
[…] You may view the full article and add your own comments at http://www.davidmcwilliams.ie/2011/05/30/memo-to-ecb-print-money-2 […]
Look forward to postings from Argentina. Great thought provoking article. Read this morning a post by Seafóid on the Smaghi thread on irisheconomy, “In his 1926 book Wealth, Virtual Wealth and Debt: The Solution of the Economic Paradox (a book that presaged the market crash of 1929) Soddy pointed out the fundamental difference between real wealth — buildings, machinery, oil, pigs — and virtual wealth, in the form of money and debt. Soddy wrote that real wealth was subject to the inescapable entropy law of thermodynamics and would rot, rust, or wear out with age, while money and debt —… Read more »
@Deco I believe much of the Swiss 1100 tons sold + the British 600 tons , the french 500 tons and even the Irish 5+ tons is in connected private western hands. Once this punch and Judy game is over you will see – the Euro was specifically designed to kill the dollar and soverginity withen the Euro zone. “They” will destroy the value of goverment money via the revaluation of private money when the drama has reached a crescendo. But they must hold just a bit longer. – timing is everything when you want to instill a feeling of… Read more »
Gold is just an element on the periodic table. Economics based on monetary value is now proving to be a nonsense for the exchange of goods and services in this age of increasing social awareness and increased inter connectedness. The ECB and Fed are kaput. People want a quality of life over gross possessions. People see they are dying from excess and idiotic responsibilities of ownig and managing too much. The joke is that the value of the recently over valued is now seen for what it is. Zero. Real value is about living with little and becoming more healthy… Read more »
David. Keep your eyes peeled over there. The article in bringing the facts together seems to me to be bringing into focus that there is something fishy going on. The ECB know they can roll the printers at anytime. They are making a fuss where their isn’t one. Now if the ECB print rolled to soon they would raise eyebrows amongst the masses. People would be wondering to themselves why should they go to work 40/50 hours a week when the ECB can come along and print run euros to give to banks that are bankrupt. The ECB plays it… Read more »
@Philip
The monetory powers will just create Gold fever to bail themselves out of their credit games so that they can start again.
You cannot fight mass irrationality with indivdual rationality – you will get steamrolled.
David, I’m confused on this one. In one of your previous articles you said that savers should be rewarded for acting wisely & not loosing the run of themselves during the boom. But this article advances the argument for printing money, this will lower the values of saver’s savings by the very fact that the more paper money there is in circulation then the less goods this paper money buys, hence savers are punished? Have I got my head around this correctly?
Also won’t printing money drive up the cost of food & basics hurting the poor, while the elite will not be effected because most of this new printed money is given to them to pocket anyway?
A more expansionary monetary policy in the form of low interest rates and a weaker Euro would help Irish, Greek and Portugese governments because it would make their now huge debts easier to pay. It would also help their businesses to boost exports and hopefully by doing do create employment. This should be done in conjuction with debt restructuring and issuing of Euro-bonds to fund these countries. The ECB may have to print Euros in the case of restructuring. On the downside the people who are owed money including German banks and normal savers would lose the value of their… Read more »
Incidently the G-7 were involved in selling Japanese Yen recently after it got too strong after the earthquake, They intervene in ‘free floating’ currencies in emergency situations. I wonder if Mr. Bruton was aware of this when he wrote of the end of the ECB and thus the world if the Irish don’t bail out the EU banking industry.
So if Greece can’t pay back the ECB and the ECB prints money to ship the loss, the Euro should weaken. The ECB being very concernced with inflation would sell foreign reserves (http://www.ecb.int/stats/external/reserves/html/index.en.html) and increase interest rates to keep the Euro strong. It cannot keep doing this indefinatly. So at a critical point, say Spain was to need a bailout, it might come under attack from speculators. It could experience large falls before the G-7 would step in and ‘save’ the day by selling their currecies and buying large amounts of Euros.
Good Luck Diarmuid
Its a beautiful morning today as the run to the Dail begins in Ballyhea and will pass through Limerick around 1.30pm .I am looking forward to seeing him in the City and to give him all the best wishes from this site.
I don’t consider myself anything of an expert in finance or economics (reasonably well informed I reckon) but isn’t this the approach that got us into this mess in the first place? Correct me if I’m wrong on this but if the supply of money is suddenly increased significantly then won’t this ultimate devalue the currency and produce inflation? If the remedy to this crisis is as simple as Print-Baby-Print then surely that points to the absurdity of the whole system itself and calls into question its true meaning. I can’t accept that this is a serious suggestion for the… Read more »
We should have thought that Brussels and the various EU governments would have been wary of appointing a former GS executive in charge of the ECB – in the light of the Greek entry into the Euro being facilitated in a fraudulent manner.
Instead they seem to be climbing over one another so as to make it happen.
Argentina…. or, “Rule of Gondor is mine, and no others!” Denthor-Steward of Gondor The warning beacons of Gondor had been lit since a long time, the Helens of Greece were the first to lit the beacon, followed by the Gaelic in Ireland, and in quick succession, more beacons were lit in all Kingdoms. In the Kingdom’s scrolls, the FT, it is written that the whimpering voice of Bini Smaghi rejected the notion that we can compare our situation with Latin America, but Bini Smaghi would never succeed the old Grey-Hair in Brussels. Denethor is known to have secretly used a… Read more »
Deposits held by Non-Residents in Irish Banks Source : Central Bank Money & Banking Statistics Table A.12.1 http://www.centralbank.ie/frame_main.asp?pg=sta_late_data.asp&nv=sta_nav.asp €bn EU Non-EU Total Jan-03 76 115 191 Feb-03 82 116 198 Mar-03 85 113 198 Apr-03 87 113 200 May-03 83 112 195 Jun-03 90 114 204 Jul-03 98 119 217 Aug-03 97 124 221 Sep-03 100 125 224 Oct-03 96 127 223 Nov-03 101 131 232 Dec-03 101 132 234 Jan-04 103 135 238 Feb-04 104 138 241 Mar-04 104 150 253 Apr-04 105 147 251 May-04 106 157 263 Jun-04 105 160 265 Jul-04 113 155 268 Aug-04 114… Read more »
Georg, excellent piece and thank you so much for the effort and research in writing it. It vindicates what I’ve long thought about the industry of money and debt.
If only we could just stop using money overnight. The only control they have over us is our need for money. If we made real efforts to reduce our dependency on money by using barter on a local scale, the banks would have less hold on us.
This is the new revolution and it’s worldwide. It is the French revolution all over again.
For those who don’t think neoliberal-capitalism is a monstrously exploitative system, then this is a must read. Far from 5th Avenue, NYC’s financial district with its shady practices and alleged laundered drug money, fancy restaurants, bars and call girls, is the underbelly of the system, the virtual-colonies, peripheral countries serving ‘core’ ones, not too dissimilar from Immanuel Wallerstein’s ‘World’s Systems Theory’ or in the parlance of others, the ultimate insiders being served by not even outsiders, I give you the un-people, the invisible, Franz Fanon’s ‘Wretched of the Earth’. http://www.guardian.co.uk/global-development/poverty-matters/2011/may/31/global-food-crisis-guatemala-system-failure Memo to the world, we have turned the place into… Read more »
“Printing money” is the monetization of government debt and Article 123 of the Treaty on the Functioning of the European Union specifically forbids the ECB from doing that. There is even some question as to the legality of the ECB accepting the junk collateral it has taken on so far as security for funding provided to the banks. The ECB is taking the defensible view that in the interest of the common currency, no Eurozone state should default (however described) and that in order to avoid default, the political leaders of the Eurozone states should have the courage to assume… Read more »
Eureka
http://www.youtube.com/watch?v=qwr9nCurEEQ
http://www.youtube.com/watch?v=XDbnnblVwOA&feature=related
Greece is being flayed alive 100,000 protestors were on the streets in Athens on May 29th. In Ireland FG’s Phil Hogan is on RTE, displaying a nervous twitch in his thumb, and announces Water charges….you will hear his choice of words more often from here on. ‘We are obliged to…’ The flaying of Irish citizens which started under FF now under FG continues. Flaying is a practice that was used in ancient times, they take off your skin while you are alive and then nail it to the city walls, as a warning to those who would defy the incumbents… Read more »
“David McWilliams: A sea change is needed in ECB – or we’re sunk” David was the inspiration for the above column you penned a few weeks ago and the current article the result of your encounter with the MMT proponents mentioned in the following link; http://smarttaxes.org/category/money-systems/ If that was in fact the case David do you not think it would be a little courteous to the promoters of MMT and also to your own fan base to at least quote a reference to the discipline as I am sure a few would find it interesting, as well as also help… Read more »
PuntNua sounds a bit droll for our new currency. How about, the Turlough ? Lol
Someone has to have the power to create and issue money. The Question is who, how is it issued and to what purpose is it issued. If it is directed towards increasing the physical capital stock of a particular region then the effect of issuing new credit money into that region will not be inflationary as the supply of money (demand) rises in tandem with the rise of physical capital (supply). The problem is when the creation of credit is handed over to the investment arms of insolvent banks who in turn speculate in the commodity markets , driving up… Read more »
Guys it appears that gold is just replacing property as the new bubble commodity.Hard to believe that in todays prices the total of gold extracted by the 49rs during the Calfornian Gold Rush still wouldn’t pay off Ireland’s bank debts.Interestingly gold seems to be the only commodity that really doesn’t have a use beyond its decorative value.We can’t eat it, burn it or grow it yet people are paying thousands for it.Its mined out of the ground, smelted, formed into ingots and then stuck back under the ground into vaults. As a race we really haven’t evolved much over the… Read more »
That was a brilliant link MidasTouch thank you It is riveting stuff and you can’t stop reading it because the truth is stranger than fiction. I first read about the drug shipments going through Arkansas under the protection of the Clinton government about 10 years ago and found it difficult to believe even though the book was extremely well researched and referenced I never mentioned what I read in conversation lest people might think I was eccentric but after witnessing the events of the 10 years since 2001 I have come to the conclusion that the world really is insane… Read more »
I cannot recall any ancient history on our isle denoting a name for money. Can someone assist me?
http://www.financedublin.com/debtclock.php Among the key findings are the below: “If investors can peer through the fog of the EU authorities’ policy response, then the highly attractive valuations of Irish sovereign and bank debt will become all the more apparent.” “Given a 5.6% interest rate, the Irish economy should be able to achieve a primary balance and nominal growth of 4.0% to stabilise the debt/GDP ratio. The planned adjustment in the primary balance is of similar magnitude to that achieved in the 1980s. So, at least within the Irish political sphere, such fiscal adjustments appear achievable’, the 38 page report concludes. See… Read more »
A must see:
Prime Time Investigates Cutbacks
http://www.rte.ie/news/av/2011/0531/media-2968230.html
David is really scraping the bottom of the barrel on this one ……he is thinking like a loser wanting a easy way out. Thinking like a German …..the ECB will never be allowed to print money.
I say
Austerity => balance budget=> stop borrowing => repay debt => problem solved
COMMODITY SCAM: Glencore update….
http://www.guardian.co.uk/business/2011/may/31/eib-halts-loans-to-glencore
Incredible – Unemployment still rising… As Gene Kerrigan said of Government recently “do they ever tire of getting it so wrong?” http://www.irishtimes.com/newspaper/breaking/2011/0601/breaking24.html Unemployment needs to be means tested immediately. There are groups of lads in their twenties living in towns and villages all over Ireland, who are living at home, yet claiming EUR 196 weekly of the state. They’ve no intention of getting jobs either, as there’s great “craic” to be had getting fed at home, then spending the welfare cash in the pub. Welfare for those under 30, depending on circumstances, such as house owner / renter, should be… Read more »
They are going nuts it seems over in the good ole US of A.
http://www.bbc.co.uk/news/world-us-canada-13614125
The death throes of an Empire…