‘This might just be one of the most important communications by the ECB in its short existence’ | FT Alphaville

‘This might just be one of the most important communications by the ECB in its short existence’

The pressure is on Jean-Claude Trichet.

On Thursday at 13.30BST, the ECB president is due to explain the euro central bank’s new-fangled collateral policy, which is of some relevance to Greece and its stressed banks.

Erik Nielsen, Goldman Sach’s Europe economist, has been banging on for ages about how the collateral system needs reforming so as to avoid a situation where a rating agency downgrade can render the sovereign debt of a eurozone member ineligible.

Here’s his Trichet primer:

Pressured by events, Trichet “pre-announced” at the European Parliament two weeks ago that the ECB will be modifying its collateral policy, and that he’ll be providing the details at the press conference tomorrow. He has already said that the present temporary increase of the threshold for losing eligibility for sovereign debt will be extended, and that they’ll change the present flat haircut structure for sovereign debt to a sliding scale. As I have argued for a long time (latest, see the FT on March 25, the change should address three things: (1) eliminate the possibility for a sovereign of losing eligibility; (2) introduce a sliding scale for haircuts; and (3) supplement the present dependency on the credit ratings agencies with an internal (but fully transparent) assessment of creditworthiness. From Trichet’s statement so far, it seems that they’ll address only the second point, and provide some breathing space on the first.

If so, this is not good enough, and it would significantly increase the risk for Greece and its banks, particularly following today’s announcement that the Greek banks have requested further help of up to EUR17bn from the government. Such help would almost certainly be provided in the form the handing over of government securities to the banks, which can then repo them with the ECB. However, if the ECB is now increasing the haircut on such securities, while not removing (just reducing some) the risk of them one day refusing to accept Greek sovereign bonds as collateral all together, it all comes down to how the market evaluates this lower risk of total disaster (i.e. loss of eligibility.) As I have argued before, for me, this was never a real risk to begin with, so net net, this is bad for Greece because of the sliding scale. This might just be one of the most important communications by the ECB in its short existence.

Related links:
My Big Fat Greek Collateral Conversion
– FT Alphaville
ECB must re-examine its dependence on ratings agencies
– Erik Nielsen