€35bn worth of Portguese-government guaranteed bank bonds is probably heading straight for the European Central Bank’s repo facilities.
But don’t expect that to do much for Portugal’s banking system.
Here’s why, from Citi’s Michael Saunders, Jürgen Michels and Giada Giani:
As part of the Portuguese package, €12bn is earmarked to recapitalize the banks, hoping that this will increase their ability to get better access to market liquidity. (In that respect we are not overly convinced by statements of the Portuguese banking association that they would not need this capital to increase their core tier 1 capital ratios to 9% by the end of the year.) The rescue package also plans to provide government guarantees for Portuguese bank securities up to €35bn. As the experience in the previous euro area rescue cases has shown, we believe the rescue package in Portugal is unlikely to increase the credibility of the sovereign, and therefore these guarantees are unlikely to improve the access of Portuguese banks to wholesale market funding … In contrast, the experience in Ireland has demonstrated that after the announcement of the rescue package banks rely even more on Eurosystem funding — in the case of Ireland including the huge use of the Central Bank of Ireland’s Emergency Liquidity Assistance (ELA). In our view, the main reason for the increase in government guarantees for Portuguese banks is securing them funding through the ECB. We expect that, once the Portuguese package is approved on May 16/17 by the Eurogroup and the Ecofin, the ECB will — similar to the other euro area countries covered by a rescue program — announce that it will accept securities issued or guaranteed by the Portuguese sovereign if they fall below the BBB- threshold for eligible collateral. With this measure the ECB probably will substantially reduce the risk of a shortage of eligible collateral of Portuguese banks to get liquidity from the ECB.
(It’s worth noting that the same trick hasn’t done much for Greece either).
The ECB, as we know, is walking a fine line between raising interest rates and maintaining full liquidity provision for troubled eurozone peripheral banks — the so-called ‘separation principle‘ approach.
As a reminder, at the start of this year the ECB introduced a new graduated haircut system for the collateral it accepts in return for its liquidity largess. The move followed some central bank uncomfortableness regarding what kind of securities were being pledged for its liquidity operations.
In 2010, for instance, the share of non-marketable assets jumped 4 percentage points to 18 per cent of total collateral pledged, or some €358bn. Not great PR for a collateral-concerned central bank:
The rules remained loose enough, however, to ensure there wasn’t a shortage of available collateral in the system — as numerous analysts pointed out at the time. Still though, what with tiering of the eurozone intensifying in recent months, that doesn’t mean there can’t be specific collateral shortages.
Back to Citi:
… A simulation based on the collateral weights of 2010 and assuming that the collateral is evenly distributed between fixed coupon and zero coupon securities and among all maturities, the collateral provided by the banks would be subject to an additional haircut of around €237bn. As this figure is much smaller than the collateral buffer in 2010, it suggests that on average there is no shortage of collateral in order to get funding from the ECB. However, enough collateral available on average in the banking sector does not mean that collateral bottlenecks at individual institutes are excluded.
A key point, and the main reason (presumably) Portuguese banks need that little government boost.
Related links:
Greece and its most grim sovereign-bank loop - FT Alphaville
An Irish bank collateral conundrum, ECB edition – FT Alphaville
ECB haircuts are trimmed, ABStylish – FT Alphaville