Saturday, 9 April 2011

The reckless bank at the Euro's heart

Eddie George used to tell a joke that there were four banks in Germany, Comical Bank, Hypothetical Bank, Dreadful Bank and Dodgy Bank. To Eddie's list we can now add Eccentric Bank aka the ECB headquartered in the red light district of Frankfurt which can only add to its attractions to certain MEPs.

Peter Oborne wrote a good piece in common sense language in Friday's DT on this topic. He quotes an well-placed minister on the likelihood of the Euro unravelling as saying "That's not going to happen. There is too much political will behind the Euro for them to let it go". Ho-hum, throughout history many politicians have said that when they know the exact opposite is true.

The current EU/ECB attitude that no European country shall default on its sovereign debt is a bit like Petain at Verdun, 'Ils ne paseront pas'. They did not pass but the cost was to so weaken his country, France, that 20 years later he headed up the Vichy regime for Corporal Hitler.

The real reason as Oborne states is that French and German banks hold huge quantities of PIGS' paper which in the event of a single default would have to be shown as worthless in their balance sheets necessitating a huge government babk bail out just like in the UK.

The problem is compounded by the ECB doing the same thing by buying outright huge quantities of this useless paper. Central Banks are supposed to supply liquidity ie short term money, by open market Repo operations where the ECB takes bonds for a short period as collateral against a loan to a commercial bank. When the loan falls due the transaction is reversed. The crucial difference from outright purchases is that the first credit call is against the repoing bank so if there is a sovereign default the ECB still gets repaid by the the borrowing bank.

JP Morgan has estimated the ECB has current losses of 40 bn€ on its Greek 'investment' alone. It faces similar losses on its dealings with Portugal and Spain. Its just the same as Lehmans, misleading accounts, lies and undisclosed losses.

So who will end up paying? Well you will dear UK citizen. Thanks to our brilliant governing class we are shareholders in the ECB (Why as we are not in the Eurozone?) and therefore have to make good its losses.

When I worked for the Bank of England I was certain a properly run central bank could never lose money. In fact, during the credit crisis, the UK taxpayer has made money out of BoE lending to Northern Rock etc at penal rates. Trichet at the ECB has shown that when you trash the rule book someone has to pay. It won't be Trichet for sure. He will walk just as he did after his little problem as head of Credit Lyonnais.

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