ECB in U-turn on junk bonds to save Greek banking system

[Ognir]

The European Central Bank executed an embarrassing U-turn on its lending rules yesterday in order to stave off the collapse of the Greek banking system.

The move came as a third general strike in Greece was set to begin tomorrow, bringing airlines and the economy to a standstill as the Government tries to implement the €30 billion budget cuts necessary to receive its bailout loan from the eurozone and the IMF.

In a statement the ECB said that it was suspending a rule preventing it accepting junk-rated government bonds in return for loans. It said that the indefinite suspension applied to Greek government debt only.

Economists said that the change was necessary but risked tarnishing the reputation of the central bank. Until the end of last year, Jean-Claude Trichet, the ECB President, had repeatedly promised that, with the financial crisis over, he would tighten the bank's lending criteria.

"It's too little, too late. They should have done this six months ago," said Colin Ellis, former senior economist at the Bank of England and now European economist at Daiwa Europe. "It's a mea culpa from the ECB. If they had lowered their criteria earlier, they may have avoided all this hassle for the Greeks. The whole exercise for me is another clear example of how the Europeans don't get financial markets. They don't sit around and wait for you to make a decision. By the time you do, they have moved on."

The ECB moved because Greece's credit rating was downgraded to junk last week by Standard & Poor's. Greek banks hold up to €45 billion worth of Greek government debt, which they could not swap for cash from the ECB because of its rules on collateral. Latest data from the Bank for International Settlements shows that European banks have claims on $188.6 billion of Greek debt, of which French banks have $75 billion, German banks $45 billion and Dutch banks $11.9 billion.

At the end of last year the ECB promised to tighten its emergency lending criteria, which it had weakened during the 2008 financial crisis. However, six weeks ago it was forced to cut even further the quality of government debt it would accept as concerns about Greece's national debt began to mount. Now it says that it will accept any quality of Greek government debt.

Trevor Williams, the chief economist at Lloyds Banking Group and a member of the Shadow Monetary Policy Committee, said: "They [the ECB] had to do this to avoid mass bankruptcies in Greece. The Greek banks have been borrowing heavily from the ECB. Without this move, banks would have had trouble stocking up their cash machines, institutions would be struggling to meet day to day costs such as wages and bills."

But he added: "This does leave the ECB a little tarnished."

The measure failed to reassure financial markets. The euro tumbled close to a 12-month low against the dollar as investors bet that Greece's bailout would not prevent contagion spreading to Spain and Portugal. Sterling also rose nearly a cent against the currency.

In Athens, opposition to the Greek Government's austerity measures intensified. The leading public sector union called for a national strike planned for tomorrow to start today. The airlines Olympic and Aegean said that they were scrapping dozens of domestic flights and two flights to London today and would ground all international flights tomorrow, because of a strike called by aviation workers.

Meanwhile, EU member nations rushed to secure parliamentary approval for their part of the loan. Greece must receive the cash in time to repay €9 billion in bonds by May 19. The two biggest contributors are Germany, providing €22.4 billion, and France, which is putting up €16.8 billion. Christine Lagarde, the French Finance Minister, said that advance warning systems were needed to prevent a repetition of the Greek meltdown. She also called for new criteria to monitor the eurozone's 16 members, a move supported by Jan Kees de Jager, her Dutch counterpart.

http://business.timesonline.co.uk/tol/b ... 115285.ece