Ralph Atkins

Another barrage of warnings this morning from European Central Bank policymakers about the dangers of a Greek debt restructuring. Jürgen Stark, executive board member, told Bavarian radio that Greece was “not insolvent” and that a restructuring “wouldn’t be a solution to the problems that Greece needs to overcome”. But Athens should not assume international bail outs were a “bottomless well” he warned.

A different – and novel - argument was made by Lorenzo Bini Smaghi, his board colleague, the gist of which was that eurozone governments should not allow themselves to be pushed around by financial markets. Read more

The European Central Bank has left its main interest rate unchanged at 1.25 per cent but is expected to confirm a bias towards another increase in coming months as it combats surging eurozone inflation.

The decision to hold fire on Thursday was expected. Jean-Claude Trichet, president, prefers not to surprise financial markets. However, at its meeting in Helsinki, Finland – one of two occasions each year when it gathers outside its Frankfurt home – the ECB’s 23-strong governing council is thought to have plotted the timing of its next move. Read more

With Mario Draghi, Italy’s central bank chief, looking almost certain to become its next president, the European Central Bank is set for a significant change of style – but not necessarily in strategic direction.

Under Jean-Claude Trichet, whose eight-year mandate expires on October 31, the ECB secured an inflation-fighting reputation in the tradition of Germany’s Bundesbank. During the eurozone debt crisis, the central bank acted as a crucial backstop, pumping liquidity on a huge scale into the banking systems of Greece, Ireland, Portugal and Spain. More recently, it has taken a much tougher line in insisting politicians take action themselves. Read more

Greece needs time to convince international investors about its reform programme and may not be able to return to financial markets next year as planned, its finance minister has admitted.

George Papaconstantinou’s comments in a Financial Times interview highlight how Greece continues to struggle to turn its economy round almost a year after the launch of an €110bn European Union and International Monetary Fund bail-out. They may fuel speculation that European leaders will have to find fresh ways of alleviating Greece’s debt problems to avert a default scenario. Read more

The ECB denies nudging Portugal towards its bail-out, but data just released suggest otherwise. Despite growing problems in the eurozone the ECB bought no government bonds last week. Buying government bonds either at auction or through the secondary market is a practice employed heavily in the past but frugally of late to suppress the cost of debt in vulnerable economies and shore up market confidence.

It also means the ECB did not buy any bonds in Portugal’s punitive bill auction last week. The prohibitive cost of debt at that auction is likely to have influenced Portuguese policymakers in seeking a bail-out. Lisbon is facing the expiry – and therefore the refinancing – of nearly €4.4bn debt in mid April and the bill auction gave an indication of the market’s likely price. Read more

Ralph Atkins

The competition to succeed Jean-Claude Trichet, who steps down as European Central Bank president at the end of October, was a big story in February - when Axel Weber, Germany’s Bundesbank president, withdrew from the race. Since then it has gone quiet.

Now news agency reports from the European Union finance ministers’ meeting near Budapest, Hungary, at the weekend suggest a decision may not be taken until an EU summit at the end of June. Germany’s government “has decided to form its opinion close to that date,” Bloomberg reported Wolfgang Schäuble, the country’s finance minister as saying.

That sounds plausible. Read more

More-hawkish-than-expected noises from the ECB have led analysts at Citibank to revise their rate forecasts upwards. They now think there will be two rate rises instead of one in 2011, with the key marginal lending rate ending the year at 1.75 per cent, with an outside chance of 2 per cent. Analysts expect the next, quarter point, rate rise in July.

Evidence of hawkishness is cited as follows. (1) The governing council said that even after the April rate hike, “interest rates across the entire maturity spectrum remain low”, adding that the policy stance remained “accommodative”. (2)  President Trichet also said the ECB would continue to ”monitor very closely“, a phrase typically associated with a further rate rise within two meetings. Read more

A senior Portuguese banker has said that the European Central Bank pressed the country’s lenders to stop increasing their use of its liquidity – setting in train events that led Lisbon to ask for a bail-out this week.

António de Sousa, head of the Portuguese Banking Association, said that the message from the ECB and Portugal’s central bank not to expand their exposure to ECB funding further came a month ago. Read more

The ECB decision to raise its policy rate by 0.25 per cent to 1.25 per cent is a seminal moment for the global economy. Not only is this the first of the leading central banks to raise rates, it is the first time for decades that Europe has initiated a rate rising cycle ahead of its counterparts at the Fed. I believe that it is wrong to view this as an isolated occurrence: economic fundamentals are far more supportive of rate rises in the eurozone than they are in the US, and that will remain the case for some time to come. And the ECB is deliberately sending a very strong message to member states that they have not gone far enough to fix the sovereign debt problem. Although the markets have already to some extent anticipated the front-loading of ECB rates, relative to those set by the Fed, they may not yet have moved far enough in that direction.

The main reason for today’s rate rise is of course entirely obvious. Eurozone inflation has persistently come in higher than expected in recent months, and the headline CPI rate reached 2.6 per cent in March, mainly because of higher oil prices. Since the ECB tends to be more influenced by the headline inflation rate, while the Fed places more emphasis on the (much lower) core rate, it was always likely that the two central banks would react in different ways to a commodity price shock.

However, this is not the only reason for the ECB’s greater hawkishness. The Fed (rightly in my view) is convinced that there is still plenty of spare capacity left in the US economy, because the unemployment rate remains far above the equilibrium or structural rate of unemployment. By contrast, the ECB is less confident about the margin of spare capacity in the European economy.

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Cyprus is showing signs of stress. Credit ratings, yields, the banking sector and sentiment are all signalling distress. This tiny island economy, roughly a tenth the size of Portugal, might defy the PIIGS acronym by needing help sooner than its eurozone peers Spain or Italy.

Redrawing the sovereign ratings map clearly showed what the ratings agencies thought. See the blue circle on the map, right. This heatmap colours countries that have been heavily downgraded since the start of the year more red, and those that have been more heavily upgraded, green. Spain and Ireland are reddish. But Cyprus is clearly in the Portugal-and-Greece camp of dark red (high downgrades).

Next, yields. Bond yields are the cost of debt to the government, so rising yields are bad news. And they are certainly rising in Cyprus. Compare two auctions of six-month debt, one in January and the other in March. Yields rose from 2.02 per cent to 2.74 per cent in those two months. This level is higher than yields on the last two-year debt offering in January of 2010. Read more

No-one can say they weren’t warned. In what must be the most trailed rate rise in history, the ECB has increased key rates in the eurozone by a quarter of one per cent. As of April 13, key rates will stand at:

  • Marginal lending facility – 2 per cent;
  • Main refinancing operations (fixed rate) – 1.25 per cent;
  • Deposit facility – 0.50 per cent.

Eurozone inflation rose to 2.6 per cent in the year to March, according to a flash estimate last week. This is up from 2.4 per cent in the year to February and 2.3 per cent in the year to January, against a target of “below but close” to 2 per cent. Read more

“It is necessary to refer to available funding mechanisms in the European framework.” This, grimly, from Portugal’s finance minister Fernando Teixeira dos Santos, according to Portuguese paper Journal de Negocios. Portugal is also holding talks on a bridging loan with the EU.

The news follows a punitive auction of 6-month bills today, at which the cost of debt to the government rose to 5.11 per cent, up from 2.98 per cent a month ago for comparable debt. More than €4bn longer-term debt is due to expire in April, leaving the central bank with a significant shortfall if it cannot issue new bonds at manageable levels. Today’s auction strongly suggests this would not be possible.

Answering a set of questions in writing, the finance minister said, via Google Translate:

Business: Portugal must now ask for help as they appeal the bankers and economists in general? The debt that you have to pay in a year do not worry you?

Fernando Teixeira dos Santos: The country has irresponsibly pushed a very difficult situation in financial markets. Given this difficult situation, which could have been avoided, I think it is necessary to refer to available funding mechanisms in the European framework as appropriate to the current political situation. This will require also the involvement and commitment of major forces and political institutions.

JDN: How do you assess the results of the auction today, particularly with regard to interest rates?

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Irish central bank governor Patrick Honohan writes:

The focus should be increasingly on measures that can help unblock growth. One dimension which, in my personal view, has not yet received the attention it deserves is the potential for mutually beneficial risk-sharing mechanisms. A variety of financial engineering options could be considered going beyond the plain vanilla bonds currently employed. Read more

Another day, another sovereign downgrade, it seems. But is there a regional basis to recent downgrade activity?

In short, yes. Read more

Moody’s expects the next Portuguese government, due to be elected on June 5, to seek a bail-out as “a matter of urgency”, and as a result, the agency has again downgraded the sovereign’s rating. The rating now stands one notch lower at Baa1, and remains on watch for further downgrade. The rating is still two notches higher than peers S&P and Fitch, both rating the sovereign BBB-.

Portuguese sovereign ratings, which had been falling, entered a downward spiral once the government stepped down. Moody’s, which has just cut by one notch, previously cut by two on March 16. S&P downgraded Portugal two notches on March 25 and a further notch on March 29. Fitch downgraded by two notches on March 24 and a further three notches on April 1. Overall, about five notches have been taken off the rating since the start of the year. Read more

Plans by the ECB to tighten monetary policy before the US Federal Reserve and Bank of England were criticised at the weekend as premature and potentially dangerous by economists.

But in a Financial Times video interview, Gerard Lyons, Standard Chartered’s chief economist, warned: “The challenge in Europe is that ‘one size’ does not fit all.” Higher official borrowing costs would be “the wrong policy, for the wrong reason at the wrong time”, he said. Read more

Markets remain nervous about Ireland after yesterday’s stress test results – despite the fact they appeared thorough and the €24bn recapitalisation they recommend matches expectations. This has prompted Europe’s biggest clearing house LCH.Clearnet to again raise the margin requirement on clearing of Irish debt, back up to 45bp from 35bp. Effectively, this increases the cost of holding Irish bonds and decreases the cost of shorting them.

Should all this post-stress-test stress lead to another downgrade, as seems likely, Dublin will be protected to a large degree by a lifeline from the ECB, which has pre-emptively suspended its collateral requirement for the country. Read more

Recent comments by ECB policymakers have a quarter percentage point rise in the central bank’s main interest rate all but certain when its governing council meets next Thursday. Seemingly overlooked is the impact on troubled economies such as Spain, Portugal, Greece and Ireland.

Adding to the apparent incongruity of next week’s move, the ECB continues to meet, in full, banks’ demand for liquidity – its version of US-style “quantitative easing” – as it has since the collapse nearly three years ago of Lehman Brothers. As a result the ECB has turned on its head the sequence central banks were expected to follow the world over – in which such “non-standard” measures would go before any monetary policy tightening started. Read more

Irish stress tests reveal a capital shortfall of €24bn, comprising:

  • Allied Irish – €13.3bn
  • Bank of Ireland – €5.2bn
  • Irish Life – €4bn
  • EBS – €1.5bn

Note: Anglo Irish Bank and Irish Nationwide Building Society were not included in the exercise because their loan books are being wound down. Anglo was fully nationalised in January 2009 and Nationwide is “effectively state-owned”. Both have required substantial state aid.

The headline figure of €24bn is better than many expected, particularly since about a fifth of it is for an additional capital “buffer” that goes beyond the 10.5 per cent tier one requirement in the base scenario, and 6 per cent requirement in the adverse scenario. Without this additional requirement, the recapitalisation requirement would be €18.7bn. The Irish central bank seems to have gone for the warts-and-all approach, which bodes well for the reliability of the numbers.

As well as raising new capital, banks will need to sell many of their non-core assets, following a deleveraging plan agreed with the central bank “in order to transition to smaller balance sheets and a more stable funding base”. They will separate assets into core and non-core, gradually selling off the latter. But shareholders, take heart: first, this will not be done in a hurry; second, the losses this will inevitably incur are already factored into the analysis: Read more

Chances of an April rate rise have risen further as the latest estimate of eurozone inflation exceeds expectations. Consumer prices rose 2.6 per cent in the year to March, according to a flash estimate by eurostat; they had risen 2.4 per cent in the year to February and 2.3 per cent in the year to January, against a target of “below but close to 2 per cent”.

Many worry that raising rates will disproportionately hurt vulnerable economies struggling to pay their debt. As Ralph points out, an ECB interest rate rise could hit countries such as Ireland – but also Spain – harder than elsewhere because of its impact on mortgage markets. But executive board member Jürgen Stark argues in today’s FT, persistent high inflation would penalise those economies more in the long run, as investors seek compensation for inflation risk. Read more