Ahead of the Euro Area Summit – The Pressure Mounts
More on the Greek Banking Calamity
Rumors have been making their way over the wires on Tuesday that the four largest Greek banks will receive € 18 billion in the form of 'EFSF bonds' on Friday in a first tranche of the recapitalization effort that is part of Greece's latest bailout deal. The report was updated several times during the day, until Friday had morphed into 'perhaps Wednesday'. Below is an excerpt of the report as it appeared at Reuters:
„Greece's bank stability fund approved an 18 billion euro ($22.96 billion) injection to rescue its four largest banks on Tuesday, and an official said they would get the urgently needed funds as soon Wednesday.
Bankers say the recapitalisation will allow them to again receive funding from the European Central Bank (ECB), which cut off some Greek banks last week because they lacked enough capital to be considered solvent.
Huge losses from a sovereign debt swap in March nearly wiped out the capital of Greece's systemically important banks and Greek authorities are scrambling to wrap up a bridge recapitalisation to help them cope with a cash crunch.
The Hellenic Financial Stability Fund (HFSF) said it had approved an agreement to release the funds, which will come in the form of notes issued by the euro zone's financial rescue fund, the European Financial Stability Fund (EFSF). The HFSF statement said the deal would be presented to the Greek banks for signing on Wednesday, and an HFSF official said the funds would be released as soon as it was signed.
Recapitalising Greece's limping banks is a vital part of the 130-billion-euro EU and International Monetary Fund bailout Greece agreed in March to stave off national bankruptcy.
But with Greece lacking an elected government after an inconclusive vote on May 6, implementation of the deal is largely on hold. With details of the overall 50-billion euro recapitalisation plan for the banks still unresolved due to political deadlock, authorities have come up with an interim solution to keep the four biggest banks afloat until a new government is formed to finish the framework.
Greece will hold a repeat election on June 17, and opponents of the March bailout agreement have surged in opinion polls, alarming European leaders who say that if the bailout is rejected at the ballot box Greece could face swift bankruptcy and economic collapse.
Greeks have been withdrawing their funds from banks for months, and the pace has picked up dramatically since the May 6 vote. That has forced Greek banks to cover their funding gaps by tapping liquidity from the ECB and the Greek central bank's more expensive emergency liquidity assistance (ELA) window against collateral.
They already had borrowed 73.4 billion euros from the ECB and another 54 billion from the Bank of Greece via ELA, based on the most recent data as of January.
Together, the sums translate to about 77 percent of the banking system's household and business deposits, which stood at about 165 billion euros at end-March.
Last week the ECB suspended some Greek banks from its funding operations because their capital was too low, forcing them to migrate to higher-cost funding at the Bank of Greece's ELA facility.“
Evidently the ECB has stopped its open market operations with Greece's banks due to their lack of acceptable collateral some time ago already. This has left the ELA ('emergency liquidity assistance') program as the sole funding tool, which is administered by the national central banks (NCB's) in the euro system and requires the ECB's placet. As might be imagined, the collateral eligibility criteria for the ELA program are significantly below the already quite generous rules employed at the central ECB level.
For instance, Ireland's central bank last year famously lent its insolvent banks some €58 billion upon the issuance of 'IOU's' by the banks. We don't know what kind of collateral the Bank of Greece is accepting in these operations, but to be safe one should probably assume the worst. In fact, we think it is almost certain it is getting bank IOU's as well (see also further below).
The above is highly significant if it is true. As David Zervos, head of Global Fixed Income Strategies at Jefferies related in a recent missive, the ECB used its power over the granting of ELA to essentially blackmail the Irish government into bailing out its banks. Of course this was all done in a very polite, gentlemanly manner, by pointing out that Ireland's clearly insolvent banks were coming close to violating the rules. Yes, there are rules at Europe's money printing central command station! These are apparently invoked 'as needed'.
The rule violation would have occurred in this instance if an idea the Irish government was toying with at the time – namely to let the senior bondholders of the defunct Irish banks eat some of the losses they so richly deserved – had been put into practice. Then, so the ECB's argument went, the institutions concerned could no longer be regarded as 'sound'. The rules say that the ECB must object to the extension of ELA if the recipients can no longer be deemed 'sound'. So there!
Of course the end result of the Irish intervention was that Ireland's government first had to lie about why it went ahead with the bank bailout, and then had its lie exposed in the most interesting fashion: the exact opposite of what it said would happen if it didn't bail out bank bondholders happened precisely because it bailed them out.
By bailing out the banks, the Irish government was eventually forced to seek a bailout itself, although it had asserted that the main reason why it had to bail out bank bondholders was that this was the only way to ensure that the government would be able to continue to fund itself in the markets!
We noticed with some interest that the ECB cut off direct funding of several more Greek banks a little while ago as they ran out of eligible collateral. However, recently the first rumblings could be heard about a potential end to ELA financing as well. As German news magazine 'Der Spiegel' reported a few days ago:
„When the head of Greece's central bank, George Provopoulos, recently met with his European counterparts, the session turned into a confession. His fellow Greeks had just withdrawn €800 million ($1.022 billion) from their bank accounts, within just a few days. Consequently, at a meeting of the Governing Council of the European Central Bank (ECB) last Tuesday, Provopoulos had to ask for money — once again.
Most Greek banks are currently cut off from the usual ECB lines of credit. They no longer have sufficient collateral. A number of banks are even currently operating without sufficient capital as a risk buffer for their activities. Indeed, Provopoulos had to accept last week that yet another crop of Greek banks were branded as unfit for ECB refinancing.
These zombie banks are being kept alive with help from the so-called Emergency Liquidity Assistance (ELA) — a rescue aid program managed by Provopoulos. At every session of the Governing Council, he has to have these special allocations approved.
For the time being, he has succeeded. Last Tuesday, the ceiling for the amount of aid that Provopoulos is allowed to give his banks was even raised again, from roughly €90 billion to €100 billion. But the Council is harboring increasing doubts about this permanent subsidy.
The central bankers are caught in a moral conflict. Cutting off the flow of money would have disastrous consequences: Greece would quickly run out of money. The population would soon not even have enough cash to pay for its daily purchases.
The entire country essentially depends upon life support from the ECB. At the same time, the risks are mounting on the central banks' balance sheets. Already back in February, Greek banks had accumulated more than €106 billion of debt alone in the TARGET2 internal payment system of the euro zone's central banks.
But the central bankers are particularly annoyed as they once again have to play the role of major bankroller because the political system is failing to address the problem. Indeed, in the Greek election circus, it looks like the issue of urgent reform of the country's ailing banks may be given short shrift.
Nevertheless, funds are available: The most recent bailout package for Greece includes €50 billion to recapitalize the financial sector. The euro partners have even already transferred half of this money to Greece.
The legal conditions for the bailout have not been clarified, though. Originally, private banks were supposed to raise roughly 10 percent of their recapitalization from private investors, or run the risk of being nationalized. Investors are, however, hard to find. So this uncomfortable issue has been sidelined in the election campaign.
By the end of last week, not even an initial bridge financing of €18 billion had flowed to the banks — funds which the interim government under Loukas Papademos had approved in a rush before the election on May 6.
„According to an analyst with the Moody's rating agency, the Greek banks have in the meantime become "economically insolvent," and thus urgently rely on assistance from the rescue fund. Even former model institutions, such as the country's largest lender, the National Bank of Greece, which posted earnings of €1.6 billion in 2007, are fighting for their survival.
Greek banks may have never indulged in high-stakes gambling on the US real estate market, but after they entered the euro zone, they aggressively expanded their lending operations. Now, they are threatened with massive defaults. Furthermore, the country's financial elite is closely linked to the political arena. At the beginning of the crisis, this prompted the banks to purchase huge amounts of sovereign bonds. The partial debt waiver by private investors a few weeks ago suddenly took an enormous bite out of the banks' remaining capital reserves. This so-called haircut cost the country's four largest banks alone €24 billion.
To make matters worse, nervous customers have been pillaging their bank accounts since the beginning of the crisis. The banks have already lost one-third of all their deposits.
Some of Europe's central bankers are nevertheless no longer willing to allow themselves to be endlessly tapped for cash. Belgian Luc Coene has already openly warned that even the ELA payments must "absolutely" be stopped if the Greek banks are actually hopelessly bankrupt, and not merely illiquid.
Gee, Luc, do you perhaps think they may no longer be 'sound institutions'? What part about 'economically insolvent' did the rest of the ECB's board members not understand? Of course in today's world 'economically insolvent' banks are quite often still 'politically solvent'.
The above morsels illustrate the perversity of the modern-day fractionally reserved banking system with its unlimited central bank backstop like few others we have come across. It is really the ultimate in 'extend and pretend' schemes – nothing else comes even close.
Greece's biggest banks, their decline in market cap and the loss of deposits since January 2010 (evidently the past several weeks of withdrawals are not yet visible on this chart) – click chart for better resolution.
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