Is Europe Getting Ahead Of Itself As Excess Cash In Euro Banking System Drops To Post-Lehman Low

Tyler Durden's picture

One of the more important stories this week, in addition to the largely underreported collapse in the US foreclosures market courtesy of the Mortgage Mess, was the drop in Eurozone "excess liquidity" when roughly €225 billion in 3,6 and 12 month liquidity providing ECB credit facilities to Eurozone banks expired and were rolled into a far lower amount of replacement maturities: only 64% of the full amount was retendered, meaning about €80 billion in system liquidity was drained. What this means is that the excess liquidity in the eurozone dropped from an already low €100 billion to a paltry €20 billion. Could this be an indication that European banks have bought their own Kool aid as to their stability? If there is another systemic risk flaring episode, and Ireland is most certainly shaping up to be the next Greece and Portugal, just how will banks proceed to raise much needed liquidity, which has dropped from nearly €400 billion in late Q2 2010 to just above zero, and the lowest since the Lehman bankruptcy.

The following charts from JPM shows the dramatic plunge in European banking excess cash:

JPM's observations on this drop in excess liquidity are as follows:

What was the driver of this drain? We believe it was mostly core banks behind this drain, as they decided to simultaneously reduce their borrowing and their deposits with the ECB. As the chart at the top shows, the excess cash of core Euro area banks, has been the driver of the excess cash in the Euro area banking system over the past two years and this core excess cash has likely declined in September to its lowest level since the Lehman bankruptcy. Instead, we expect the borrowing of peripheral banks from the ECB to be flat in September with a potential increase in Irish bank borrowing from the ECB of around €20bn to be offset by a similar decrease in the ECB borrowing by Spanish banks. Spanish banks decreased their reliance on the ECB by €16bn in August, as net bond issuance turned positive and deposits increased. With bond net issuance staying positive in September and Spanish banks continuing to be aggressive in attracting deposits, we expect a similar decline in the Spanish bank borrowing from the ECB in September.

In other words, the weak banks continue to be weak, and have borrowed around €400 billion from the ECB, even as the core healthy banks have either decided they are not concerned by any of the peripheral issues in Europe, or have found another, faster and heretofore unknown direct liquidity providing mechanism from Jean-Claude. We would be very curious to uncover just what it is that has given core European banks so much comfort and confidence that they do not need the excess capital... Unless that excess capital was never needed for backstop purposes but merely for speculation on the outcome of the crisis for the periphery. Which begs the question: was the much maligned "wolfpack" in Europe merely the healthy European banks? JPM sure seems to think so:

Why have core banks chosen to reduce their borrowing from the ECB so sharply this week? The most likely interpretation is that core banks have been borrowing more than they needed from the ECB for speculative purposes, i.e. to invest in bond or interbank markets, and this activity is now less attractive given that long-term funding is no longer available from the ECB. In a way, what happened this week is a repeat of last July when core banks decided to return to the ECB more than €200bn. It is also possible that greater access to interbank and debt capital markets by small core banks might have contributed to the decline in the excess cash.

Well, unfortuantely judging by Euribor, EONIA and EUR Libor, the interbank markets are still as snarled as ever. We only need to remind readers that there is a bank in Europe which for 4 weeks running now has had to renew it weekly $60 million line of credit not from the ECB, but from the FED itself, to replenish its dollar deficiency.

Of course, there is a far more innocuous explanation: merely that core banks have once again started seeing the traditional deposit funding mechanism unlocked.

This week’s collapse in the excess cash in the Euro area banking system is also a reminder that an increase in peripheral bank borrowing from the ECB does not necessarily imply an increase in the excess cash in the Euro area banking system. To see this, let’s assume that depositors move their deposits from peripheral banks, forcing them to borrow from the ECB to replace the lost deposits. Core banks find themselves with extra deposits which they can 1) either deposit with the ECB or invest in bond/interbank markets which also end up with the ECB’s deposit facility, or 2) they can use them to reduce their borrowing from the ECB. The first action causes a rise in the excess cash in the Euro area banking system. But the second action does not cause a rise in the excess cash in the Euro area banking system as increased ECB borrowing from peripheral banks is offset by reduced borrowing by core banks.

Well, that's all great, if only it weren't for one small thing: USDCHF, which closed at a fresh all time low record of 0.9734 (yes, yes, it depends if one uses Bloomberg or another service to track previous record: presumably it dropped lower in March 2008, but for all intents and purposes this is an all time low). If indeed Europeans had regained confidence in their banking system, why does the massive influx in CHF-denominated assets continue?

So what are next steps for European liquidity?

Is this week’s sharp decline in the excess cash sustainable? The availability of unlimited liquidity at the weekly operation combined with this week’s sharp rise in interbank rates, is likely to trigger some speculative borrowing from the ECB over the coming weeks, but this is unlikely to be large. The main lesson from the expiry of the ECB’s long term operations, both this week and last July, is that the withdrawal of long-term ECB funding discourages speculative activity by core banks and this pushes the excess cash in the Euro area banking system to a new lower range, only modestly above zero.

In other words, should there be another ramp in ECB borrowings, it will mean that volatility will increase even as peripheral banks still hold record amount of backstop cash. And if this cash goes to being used as merely collateral for shorting sovereign European bonds, and if this is uncovered, it will likely be the basis of a scandal even larger than when it was discovered than one of the biggest shorters of Greek debt was none other than a Greek bank itself.

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traderjoe's picture

I wonder how much longer Ireland can muddle along. No more bond auctions for the remainder of the year? Ireland will need to tap the European bailout at some point, but I don't think they can actually put that bailout together. It is a bazooka for appearance only...

Spalding_Smailes's picture

Most of the debt around the globe is denominated in dollars....! The *dollar* will be king for a long,long time lots of debt/credit needs servicing in the future.


carbonmutant's picture

The farther the dollar falls the more expensive EU goods become. At some point the ECBs have to start buying dollars if they want to sell anything in the US. More importantly American goods are becoming cheaper, which is why companies like CAT have been climbing since June.

But with a fall this steep somebody is getting set up for a short squeeze.

Cojones's picture

Help me out, American goods... ? Silver Eagles? GM's? 

It seems the EU can do better without american imports than vice versa.

edit: A quick scan of my house reveals as much as 1 american product: The MacBook Pro I'm typing this message on.

carbonmutant's picture

The US which is the world's largest national economy exported $1.057 Trillion f.o.b last year. And if the EU doesn't stop the fall of the dollar much of that $Trillion export is going to the EU's customers... which of course isn't going to help their austerity programs.

ZeroPower's picture


Macbooks are made in China.

Dollar Bill Hiccup's picture

Assembled in China. By very cheap labor. Who takes a very minor cut of the profits.

Hephasteus's picture

Geforce 8800GT Graphics Card $139, Geforce 8800GT Graphics Card Sold by Apple, $400. Knowing your not a hipster douchebag. Priceless.

snowball777's picture

Not sure why EFI boot support qualifies one as a hipster, but you can get the Mac version for ~$200.

Hephasteus's picture

If you're a mac head you're probably confused about many things. EFI is not a MAC thing. It's not created and conceived by the all powerful steve nobs. It's simply a bios extension. It was first done by the LILO boot loader in linux in early 2000. It's a firmware extension done by Intel who's latest sandy bridge chip happens to have a hebrew name. It's ultimate goal is to extend the multicore boot strapping to enable each cpu core to operate from the very beginning of boot which simple bios doesn't do it simply starts one core and the OS starts the others. The lack of EFI not being present on enough machines was probably responsible for hampering the introduction of systemD. The replacement for systemV the root daemon for linux which runs all other daemons. SystemD will likely be a nightmare as it will enable rootkitting on linux which intel cpu's have always be "open" to on windows. Too bad  there's lots of eyes looking.

I've used or worked on just about every operating system ever done. So having run yddragsil plug and play linux and redhat system 7 I've been hipster douchy since way before 1996. But you're never really told the whole history and story when you're corporate evangalized. The marketing department and keepers of the truth of strenght and weakness and good and evil like to distort a bit. The powers that be have decided to dump microsoft in the trash and exalt mac now that it has accepted the intel and the evil the intel wants to spread. So get used to being called names. It's going to get real ugly for the mac religion.

snowball777's picture

Not really a Mac head (Jobs? -> marketing guy), but my Air is the nicest x-terminal I've ever owned. ;)

I ran Slackware back in the early 90s...good times.

Most of my hive use coreboot over ether from a hub these days (in USA, kernel comes to YOU!).

You might dig(g) this:

tom's picture

The Europeans keep taking baby steps mostly in the right, austerity direction, and they keep getting overwhelmed by the American giant steps in the wrong direction.

This euro rebound vs the dollar is killing the rebound of Eurozone exports and re-exposing the pitiful state of the periphery, which would lead to the start of a new cycle of euro weakness by the end of this year at the latest. Instead, right as markets are turning against the Eurozone, the Fed is going to come in with QE and prevent the euro from coming back down to earth, and cook the Europeans' goose. The only defense is to get about 100 times more active writing off and recapitalizing.

carbonmutant's picture

"The only defense is to get about 100 times more active writing off and recapitalizing."

Either that or buy $Dollars.

Spalding_Smailes's picture

. The only defense is to get about 100 times more active writing off and recapitalizing.


And what do they need to service that debt, more dollars ...

frankTHE COIN's picture

In the 2004 tsunami it was discovered that no animal corpses were found in the Sri Lanka's national wildlife park. Although only 30 out of 250 tourist vehicles returned to base safely. Human loss of life was extensive. Elephants, buffalo, monkeys and wildcats all fled to safety before the destruction came.

All these signs Tyler has pointed out is becoming overwhelming of whats coming.

PhotonJohn's picture

So are the people here on ZH supposed to be the animals in this scenario?

Black Forest's picture


...EURCHF, which closed at a fresh all time low record of 0.9734 (yes, yes,...



godzila's picture


And the EUR has steadily gained against the CHF over the past week - definitely no massive influx these days...

Dollar Bill Hiccup's picture

Maybe the crafty play for a European choc full of swissie is to buy gold denominated in ... USD.

Atomizer's picture

Not a advocate of violence, just a popcorn eater watching history repeat.

Real IRA warns mainland banks to expect attacks

"In an exclusive written exchange with the Guardian newspaper the Real IRA has warned that English banks and bankers are now among potential high priority targets. The group also said that future attacks ‘would alternate between "military, political and economic targets."

SF to table Lenihan motion. SF = Sinn Fien

Irish Economy

How did this all play down?

Lisbon Treaty 101: Why Ireland should VOTE NO on June 12th


Cranberries - Zombie

scratch_and_sniff's picture

lol zombie video, thats insight for you.

Black Forest's picture

That EURCHF upward trend of the previous 4 weeks is statistical noise. I cannot confirm that "Europeans had regained confidence in their banking system". Quite the opposite. In the long run, EURCHF will keep its present level of approx 1.30 .


Black Forest's picture

was thought as a reply to godzila on Sat, 10/02/2010 - 19:57 #621034

godzila's picture

Quite the opposite. In the long run, EURCHF will keep its present level of approx 1.30

I would tend to agree - just wanted to point out that the EURCHF recent movement was in line with the excess cash downward trend.

ZeroPower's picture

Best line of the article:

 If indeed Europeans had regained confidence in their banking system, why does the massive influx in CHF-denominated assets continue?



Absolutely true. Now think, why would EU banks be buying CHFs all of a sudden? Easy: screw the EUR in the long term, we'll make millions off the rising $!

gwar5's picture

Thanks for keeping an eye on the big picture ZH. What happens to Europe will determine what happens to all the fiat infidels in the West. 

DarkMath's picture


Excess cash goes up, excess cash goes down.

Excess cash is now down and it will soon go up (as QE2 comes online). This isn't rocket science.

There will be no Defaults! Get over it. No bank is going to run out of money. The revolution WILL NOT BE TELEVIZED.

What about the Velvet Weekend don't you understand?


GreatTimeToBuy's picture

why is the CHF considered to be more stable than the Euro? The Swiss economy is also highly dependent on banking and insurance, two industries that could see some adverse developments going forward. i mean i like their chocolate but who is going to buy omegas if the depression actually starts?

Just wondering as i have been pondering buying some franks myself....getting away from the euro.

snowball777's picture

And whatever happened to all those horrible CHF-denominated RE loans all over eastern europe?

The Swiss never struck me as the ballpeen hammer to the kneecap crowd.

99er's picture

(Reuters) - China pledged on Sunday to support a stable euro and not reduce its holdings of European government bonds in an effort to deflect criticism of its foreign exchange policy ahead of an EU-China summit this week.