ECB Long Term Refinancing Operation (LTRO) in Focus

 Frankfurt, Germany             

The Euro currency is rising while European markets are pushing higher this morning with the expectation that the European Central Bank (ECB) will provide a second round of positive liquidity boosting to banking institutions in the Euro zone later today through a second round of  the Long Term Refinancing Operation (LTRO).

Last December when the markets were plunging and yields on Italian and Spanish bonds were rising to critically high levels, the ECB came forward with 489 billion euros ($ 656 billion) cash infusion in their first Long Term Refinancing Operation (LTRO) which helped to provide a boost of liquidity to Euro zone banks that were in quick need of more liquidity to improve their balance sheets due to their exposure to periphery debt in southern Europe.

Some economists refer to LTRO as “quantitative easing by the back door”, since the ECB is prevented by their mandate from functioning in the same capacity as the Federal Reserve and is limited from printing more euros to help indebted euro zone countries. However, by offering cheap liquidity through the LTRO, the ECB is helping to alleviate a potential credit crisis and freeze in lending by engaging in a “quantitative easing program by the back door.”

LTRO functions by providing cheap 3 year ECB loans to Euro zone banks, which is currently set at a historically low benchmark level of (1% ). The money can be parked at the ECB reserve  for a profit of .25% or else used to buy government bonds to keep lending rates lower.  The money can also provide loans to European businesses at higher interest rates to spur business activity in the Euro zone and stimulate growth.

Banks used the majority of the 489 billion euros ($656 billion) they borrowed during the first LTRO issuance in December to cover maturing debt.  The first LTRO in December also impacted the EURIBOR, or the rate at which Euro banks lend to each other, which has fallen since December. This week the EURIBOR fell below the ECB benchmark of 1%.

In total there were 523 banks that dipped into the first round of the LTRO last December, representing 1/4 of Euro zone banks, according to Bloomberg’s Chief Economist Linda Yueh.

While bond yields on Italian and Spanish debt have fallen to much safer lower levels, European equity markets have rallied over 8% since the first phase of the LTRO in December.

Forecast

A Bloomberg poll by economists forecasts that the second round of LTRO will issue 470  euros of cheap ECB euros later today in Frankfurt, Germany. A Reuters poll of 30 euro money market traders Monday showed expectation of 500 billion euros, with forecasts ranging from 200 billion to 750 billion euro.

Thomas Hermann, Global economist at Credit Suisse Group AG, told Bloomberg today that there are downside risks if the ECB provides less that 250 billion euros.

UPDATE: THE ECB EXCEEDED MOST ANALYSTS’ EXPECTATIONS BY  MAKING 529 BILLION EUROS OR $713.4 BILLION AVAILABLE TO 800 EURO ZONE BANKS THROUGH THE SECOND ROUND OF LTRO ANNOUNCED EARLIER TODAY.

 

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