Fears that stalked European credit markets last year, pushing money-market interest rates higher and prompting major central bank interventions, are back. Longer-term European money-market rates, elevated since the start of the year, are rising sharply.
On Wednesday, rates at which euro-zone banks lend to each other for three months hit 4.398 per cent, above the European Central Bank’s four per cent policy rate and their highest since January 18. Overnight rates – which spiked to 4.7 per cent on August 9 and prompted the ECB’s initial emergency injection of €94.84 billion (Dh532bn) – remain at four per cent, making a similar injection of overnight funds unlikely in the short term.
Longer-term rates are rising despite ECB policy-makers’ ongoing efforts to maintain calm in the three-month market. A month ago, the ECB renewed two extra three-month injections of €60bn, each from late last year. The second of those three-month operations renews March 13.
The Bank of England has been more restrained than the ECB in its market operations, but speculation is mounting it may renew its own extraordinary three-month injections. Like the ECB, the United Kingdom’s central bank conducts regular three-month operations to provide financial institutions with longer-term funds.
In December and January, it disbursed three-month funds against a wider range of collateral than normal, including high-quality mortgages.
With the first of those special three-month offers set to expire this month, UK banks have been getting antsy. Three-month sterling London interbank lending rates climbed to a two-month high of 5.774 per cent on Wednesday, well above the bank’s 5.25 per cent policy rate.
The same fears that prompted last year’s interbank market upheavals are driving the resurgent tension. Banks remain worried that their lending partners are overexposed to risky bets and are hoarding cash in case their own writedowns exceed expectations.One difference this time: fear is spreading beyond the sub-prime.
“We’re seeing increasing fears on more and further writedowns from banks, not just in terms of sub-prime exposure now, but broadening out into other asset classes,” says James Nixon, Société Générale economist in London. “Now, it’s also concerned about exposure to consumer credit cards and car loans.
Liquidity is drying up at the moment in some asset classes and that’s pushing these spreads wider.”Another driver: Banks may have postponed their own day of reckoning late last year. When buyers for asset-backed commercial paper disappeared, banks brought assets back onto their own balance sheets.
“Perhaps banks were financing them with their own in-house liquidity, or issued other forms of paper that weren’t necessarily asset-backed,” said Nixon. Now, with loans coming due, buyers remain scarce. “Basically, time’s up. That money has to be rolled again, and the climate is no better.”
Spreads between central bank policy rates and longer-term money market rates in the euro-zone remain smaller than in the UK. That may be because the ECB regularly accepts mortgage-backed securities as collateral, so banks with access to the ECB’s tap can trade hard-to-sell asset-backed securities for central-bank funds.
That has helped keep some banks flush but also prompted accusations that the ECB is artificially propping up a market and questions about whether a central bank should accept collateral with uncertain or falling values.
Analysts suspect a desire to avoid stirring similar debate will keep the Bank of England from acting on a scale comparable to the ECB’s. “The problem is the potential cost, because the government ends up holding lots of stuff which may well be worth less,” says Michael Saunders, economist with Citigroup in London. “And also by acting on such a large scale, it prevents the market ever finding a clearing level.”
The resurgent money-market tension dashes policy makers’ often-expressed hopes that European banks’ annual audited results would bring a measure of clarity and calm. Now, some suggest a new checkpoint: when the US housing market hits bottom. (Dow Jones Newswires)
4.39%: Money-market rates at which euro-zone banks lend to each other touched their highest point since January 18
Déjà vu for euro-zone banks as money-market rates rise