Are the Central Banks Planning a Eurozone Drop-Out?

ByJosh Ferry Woodard

The Pound is trading at 1.573 today against the Dollar following yesterday's coordinated action from the US Federal Reserve, Bank of Canada, Bank of England, Bank of Japan, ECB and Swiss National Bank to improve liquidity for banks. The 6 central banks agreed to cut the interest rate on dollar liquidity swap lines by 50 basis points.

Essentially the announcement allows commercial banks to borrow dollars - the staple currency in interbank lending - at a cheaper rate. As a risk aversion technique US Banks charge a deposit in the currency being traded (e.g. UK banks would pay a deposit in Sterling) before they dish out the dollar. The reduction allows commercial banks to borrow money at a rate of 0.56% interest reduced from 1.06%, it is planned to last for 14 months.

The official line on the move is:"The purpose of these actions is to ease strains in financial markets and thereby mitigate the effects of such strains on the supply of credit to households and businesses and so help foster economic activity."

Many investors, financers, and politicians had called for affirmative action and when it came the markets responded with jubilation; the high-yielding commodity currencies such as the South African Rand, Australian Dollar and New Zealand Dollar shot up rapidly, rising 1.5-3% while the safe haven US Dollar and Japanese Yen were punished for their low interest rates and high security.

The announcement appears to be good news for the global economy, at least in the short term; North American and European share prices rose on average over 4%. Italian bonds dropped and German one-year bunds fell below zero for the first time in history, prompting optimism for France and Spain who sold large numbers of bonds today.

It appears however that cheaper dollar swap lines will help commercial banks, and the announcement did give the market something to react to yesterday, but the fact remains that more is needed in the means of fiscal integration to sure up the Eurozone debt crisis. Spain's 5-year borrowing cost rose to 5.544% today from 4.848% on 3rd November. Spain sold €3.75 billion of bonds but at its highest interest rate in 6 years. Across the board, yesterday's spikes are falling back down; the commodity currencies are still benefitting from the decision, just not as dramatically as they did upon its announcement.

One question being raised by traders is that of ulterior motives; what does this move suggest for the market? The lower interest rates should help prevent credit shortages which is especially pertinent in the case of emergency e.g. If a Eurozone country defaulted, it would make cash more accessible for the banks that were holding the failed state's debt. A positive move then? Yes and No. Of course precaution is to be heralded and the affect of the decision was palpably positive, but at the same time the move could be interpreted as rotten with worry; an ominous clue that policymakers foresee a Eurozone state failure.

The Euro's precarious predicament is not good for the Pound and if the unthinkable happens and a Euro member state defaults, it will be the Dollar that benefits from risk liquidation.

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Josh Ferry Woodard

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Josh Ferry Woodard

Email Address:SubscribeEconomics Article FeedFind More ArticlesSearchSimilar ArticlesChina's Renminbi - Our Currency, Your ProblemCapitalism Under Attack: Petrodollars, Petroeuros and the Iranian Oil BourseThe Ongoing Plight in the EurozoneNine Golden YearsLatest Movements in the Price of GoldA Brief Introduction to Forex Trading BasicsRecent ArticlesHow To Solve The Homeless SituationProgressivism Isn't Progress, VIIIHow Secure Is Your "Secure" Job?A True Comparison Of Increasing Debt Between Bush And Obama AdministrationsHow To Compete With ChinaWould Einstein Think Us Insane?What Will Happen If Greece Defaults?A Cluster of (Minor) ErrorsThe US Recovery Is Producing SurprisesA Sigh Of Relief For The Economic Status Of The USSubmitted On December 01, 2011. Viewed 6 times. Word count: 547.

MLA Style Citation:
Woodard, Josh F.".".1 Dec. 2011EzineArticles.com.26 Jan. 2012 .APA Style Citation:
Woodard, J. F. (2011, December 1). . Retrieved January 26, 2012, from http://ezinearticles.com/?Are-­the-­Central-­Banks-­Planning-­a-­Eurozone-­Drop-­Out?&id=6728569Chicago Style Citation:
Woodard, Josh F. "." EzineArticles.com. http://ezinearticles.com/?Are-­the-­Central-­Banks-­Planning-­a-­Eurozone-­Drop-­Out?&id=6728569EzineArticles.com© 2012 EzineArticles.com
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European Banks Score Again

, european banks,european central bank,lending,banks,TARP"; // -->John S Hopkins JrBasicAuthor|  8 Articles

Joined: September 15, 2009Was this article helpful?00ByJohn S Hopkins Jr

European banks recently took advantage of a program from the European Central Bank meant to increase liquidity in Europe's fragile banking system. The banks borrowed almost 500 billion euros in 3 year loans carrying an interest rate in the range of 1%.

The market's initial reaction was positive but then it started dawning on traders that the need for such a huge amount of cash could signal more trouble. There's also some question as to how the funds will actually be used; i.e., will the funds be used to loan to third parties or will the banks just sit on the cash, or invest in treasuries while enjoying the spread, much like US banks did when they received TARP assistance back in 2008.

In many ways, what's going on in Europe is eerily similar to what happened in the US during that tumultuous period back in 2008. Regulators saw trouble brewing, and instead of letting more banks go under decided to throw lots of cash at them, which some think ultimately worked. Now European regulators are hoping for the same outcome, though it is too early to tell if what they are doing will work.

Let's remember what happened not long after US banks got their TARP funds. It took a few months, but eventually, the market tanked, with the S&P hitting a low of 666 the week of March 2, 2009. In fact, the S&P was close to 1100 at the beginning of October, 2008, when TARP was initiated, so it fell almost 40% in a five month period.

There's no telling if Europe is on the same path, but those who went through the volatile times at the end of 2008 and the beginning of 2009 know that the initial reaction to TARP was relief. Then reality set in resulting in that big move down in the equity markets. What's the lesson? We shouldn't be surprised to see a similar outcome once the initial relief period wanes.

Whatever the ultimate outcome one thing is clear. Banks have once again managed to hold the universe hostage due to their poor decisions. And, once again, the party line will be that banks are the lifeblood of the economic system, that we can't live without them, that they must all remain strong. Really? Might we not be better off if the we let things run their course, letting the weakest of the weak go under, while weeding out those banks who have made the worst decisions? No one seems to have the answer, but perhaps its worth a try.

About the Author

John S. Hopkins Jr is one of the co-founders of Invested Central. John founded the company in 2004 after spending almost thirty years in the financial services sector. John started out by producing and providing educational training programs for financial institutions and their employees. Hundreds of companies and thousands of employees have used his training materials and John has taken this successful experience and now provides educational training to stock market investors.

You can learn more about John and Invested Central, and sign up for our free stock market newsletter, at http://www.investedcentral.com

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John S Hopkins Jr

Email Address:SubscribeEconomics Article FeedFind More ArticlesSearchRecent ArticlesHow To Solve The Homeless SituationProgressivism Isn't Progress, VIIIHow Secure Is Your "Secure" Job?A True Comparison Of Increasing Debt Between Bush And Obama AdministrationsHow To Compete With ChinaWould Einstein Think Us Insane?What Will Happen If Greece Defaults?A Cluster of (Minor) ErrorsThe US Recovery Is Producing SurprisesA Sigh Of Relief For The Economic Status Of The USSubmitted On December 22, 2011. Viewed 12 times. Word count: 431.

MLA Style Citation:
Hopkins, John S.".".22 Dec. 2011EzineArticles.com.26 Jan. 2012 .APA Style Citation:
Hopkins, J. S. (2011, December 22). . Retrieved January 26, 2012, from http://ezinearticles.com/?European-­Banks-­Score-­Again&id=6773995Chicago Style Citation:
Hopkins, John S. "." EzineArticles.com. http://ezinearticles.com/?European-­Banks-­Score-­Again&id=6773995EzineArticles.com© 2012 EzineArticles.com
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