Misapplication of funds by ECB/NCBs
One of the ECBs most important tasks (in coordination/cooperation with NCBs) is to provide liquidity to the Euro banking system within established rules and regulations. The Bundesbank states in its March Report that its receivables from foreign banks in the Eurozone had increased to 325 BN EUR (roughly half of the Bundesbank’s total assets). Since such receivables were close to zero before the outbreak of the debt crisis, it is safe to assume that these are receivables against banks in deficit countries. The Bundesbank says that this increase “does not represent a change in its risk profile”.
Any junior banker knows after his credit training program that every receivable on the asset side of a bank’s balance sheet represents risk. If the counterparty doesn’t pay, the receivable is worthless. The bank then needs to liquidate its collateral.
The Bundesbank’s collateral consists of sovereign debt instruments of those countries whose banks require Target-2 financing for lack of liquidity. Should the Bundesbank need to write-down only 25% of the value of these receivables, that would translate into a charge against its P+L of approximately 80 BN EUR.
According to unofficial statements, Greece accounts for about 80 BN EUR of the above total of 325 BN EUR. What is the Bundesbank financing in Greece? The Bundesbank sends money to Greece so that (a) Greece can import goods instead of producing them on her own; (b) wealthy Greeks can transfer their own money to private accounts offshore; and (c) private offshore lenders to Greece can get repayment of their short-term loans.
Out of the “ordinary course of business”, Greece as a country had in the recent past a monthly withdrawal of liquidity from her banking system of 2 BN EUR (24 BN EUR annually!). This represents the net result of receipts from exports and offshore services minus import payments (current account). To this one would have to add the liquidity required to finance capital flight (estimated at 20-30 BN EUR in 2010). Finally, short-term lenders have cancelled their loans to the Greek banking sector whose repayment also needed to be financed. The resulting “hole” in the Greek banking system had to be financed somehow and it couldn’t be financed through increased savings because the savings rate was negative.
Who closed this hole? The alliance of ECB/NCBs have closed it. Who profited from that? The exporters to Greece, the wealthy Greeks and foreign short-term lenders. Who will suffer from that? In the final analysis, the tax payers. And the Bundesbank has done this totally quietly, seemingly “behind closed doors”!
Nobody forced the Bundesbank to do this. Had it not done this, it would have led to the perfectly normal sequence of events in such situations: a Greek Bank Holiday to implement new laws such as the temporary freeze of deposits.
And afterwards one would have acted like a corporation which has 430 BN EUR in debt (the foreign debt of Greece in mid-2010) and which can no longer service its debt. Specifically: call a meeting of creditors with the aim of forming a Steering Committee; and negotiate with that Steering Committee a consensual rescheduling of this debt. One such solution could have been: 50% of the debt to be repaid with a new 20-year bond; 25% with a 10-year bond; and 25% with a 5-year bond. Capitalization of most of the interest during the first 5 years. Fresh Money from the EU in a senior position.
ECB/NCBs would have taken measures that there would be an active secondary market for these instruments. Based on the prices in that market, the creditors would have had to make adequate risk provision in the P+Ls. The money which was sent to Greece could have been used to bail-out and/or liquidate the banks which couldn’t handle the risk provisions on their own.
This could, of course, could still be done today but the above 325 BN EUR are now „foolishly spilled milk“: they either disappeared in the budget deficit and/or landed in foreign bank accounts.
Talk is now starting about a possible forgiveness of Greek debt („haircut“). Historically, haircuts of sovereign debt have been made either after a one-time event of serious destruction or in the case of extreme national poverties. The thought of saying to a deficit country “we’ll forgive you 40% of your debt because you cannot sustain that”, that is a thought which should never cross the mind of a responsible banker, much less be publicly discussed by a banker.
Summa summarum: the tax paying citizens have very good reasons to be extremely upset about what happened at ECB/NCBs in the last 2 years!
So far the position paper of last April.
Today, the Bundesbank has receivables against foreign banks of nearly 500 BN EUR. Very little of the money sent to Greece has actually had any benefit for Greece. Instead, Greece’s foreign debt is now over 500 BN EUR and liquidity continues to leave the Greek banking system in leaps and bounds.