FYI | Dec 19 2007
By Greg Peel
When the US Federal Reserve slashed its target cash rate by 50 basis points in August in response to the growing global credit crisis the move was applauded as a “shock and awe” tactic. Unfortunately, however, despite the move, and a further 50 points in rate cut, and a 150 point cut in the discount rate, and a series of liquidity injections and concessions which have culminated in this week’s first auction of $20bn of 30-day debt, credit markets have remained stubbornly frozen.
Similarly, the European Central Bank has made large injections of liquidity into the banking system, the first of which occurred even before the Fed started cutting rates and which was then the biggest injection since 9/11. The ECB has never cut its cash rate from 4% however, given a constant fear of inflation. The Bank of England has cut its rate, as has the Bank of Canada, and just about every mature-economy central bank in the world has attempted to flood their respective markets with cash. Yet still, through all of this, credit markets had not budged.
The money may have been making it to qualified banks but they, in turn, were not prepared to pass it on to anyone else. All trust had vanished from the market, to be replaced by simple suspicion, fear, and an attitude of looking after one’s own back yard. A lot of that fear has to do with the fact that billions worth of credit securities are sitting on balance sheets around the globe and nobody honestly knows how much they are worth. Who would be the next financial institution or business to go under? No point in taking the risk.
As Australians will be well aware following this week’s extraordinary property trust collapse, global business needs funds to operate. That money can no longer be sourced via credit securities, so it has to be sourced from banks. But banks were lending to no one. To take the Centro ((CNP)) experience to the nth degree, the global commercial system was at risk of completely imploding.
Since the original 50 point cut, the Fed has been accused of being behind the curve, out of touch, incapable of making the hard decisions – you name it, anyone losing money has been ready to hurl criticism. The most recent initiative the Fed came up with was to auction off 30-day debt, starting with US$20bn this week. Even on that announcement, markets were sceptical. From the beginnings of the credit crunch the Libor rate has risen to a record spread above cash rates, and stayed there. It has made no difference what the cash rate may have been lowered to – Libor is the rate at which all financial lending is based upon.
The European Central Bank, however, has not done a lot but when it has it simply does not muck around. And that was very much the case last night. Global markets were completely stunned to hear that the ECB had injected US$500bn worth of 16-day funds into the market for the year-end period. This was twice what the central bank had previously indicated would be needed. The rate on offer was 4.21%. That’s 21 basis points over the ECB’s cash rate of 4% but, before any reaction, some 73 basis points below where Libor had been trading. Every central bank initiative up to then had failed to make more than the slightest dent in Libor.
But last night the dam broke, and Libor fell a record 54 points in one day. That 54 points could well be the difference between everything from global corporation being able to rollover financing facilities to Australian banks holding off on raising their mortgage rates.
The Bank of England also chimed in, offering US$10bn of 90-day finance at 5.36%. That’s 14 basis points below the BoE’s 5.5% cash rate.
The ECB reported some 390 private sector banks in the Eurozone had put their hands up to receive the two-week reprieve. It also reported that on Monday the bank’s “emergency margin lending facility”, which can be accessed at a penalty rate, had been tapped for E2.44bn. Clearly European banks have been in difficulty. Maybe this latest move will ease the problem.
Australians will note that Centro Properties shares have risen 54% this morning.
