ECB Admits Sovereign Bonds Are Not Riskless

Tyler Durden's picture

For the last year or two, European banks have engaged in the ultimate of self-referential M.A.D. trades - buying the sovereign debt of their own nation in inordinate size to maintain the ECB's illusion of control (even as their economies collapse and stagnate) while referentially obtaining the funding for said purchase from the ECB by repoing the purchase back to the central bank, usually with no haircut to mention. Today though, as The FT reports, a top official at the European Central Bank has signalled it will try to force eurozone banks to hold capital against sovereign bonds, in an attempt to stop weak lenders using its cash to hoover up the debts of crisis-hit countries.

This is a problem as banks assume zero risk-weights (under BIS III) to these "assets" as they swap them for cash with the ECB and, as Praet notes, if sovereign bonds were treated “according to the risk that they pose to banks’ capital” during the health check, then lenders would be less likely to use central bank liquidity to buy yet more government debt.

Via The FT,

A top official at the European Central Bank has signalled it will try to force eurozone banks to hold capital against sovereign bonds, in an attempt to stop weak lenders using its cash to hoover up the debts of crisis-hit countries.




the central bank could combine its new powers as chief banking regulator with its existing role as currency issuer to toughen up the requirements on sovereign bonds, which have been traditionally classed as risk-free.




Mr Praet said if sovereign bonds were treated “according to the risk that they pose to banks’ capital” during the health check, then lenders would be less likely to use central bank liquidity to buy yet more government debt.


The vicious cycle that has seen banks use central bank cash to buy government bonds has been partly blamed for prolonging the eurozone financial crisis.

But do not worry - should this decision to force banks to hold more capital against their massive sovereign bond books backfire (though credit creation is already dismal), the ECB will save the day...

If the health check were to choke off lending to eurozone households and businesses then the ECB would provide another round of cheap loans, Mr Praet said.


He said monetary policy would be used “without hesitation” if the ECB’s data on money and credit showed banks were continuing to shrink their loan books. The ECB would ensure any liquidity was used to spur lending to the real economy by attaching tougher requirements to banks’ holdings of sovereign debt.

And ever the optimist,

“Perhaps paradoxically, a rigorous AQR and stress test helps monetary policy [function],” Mr Praet said.

but the kicker is...

Should the procyclical impact of the AQR be significant, then monetary policy would be able to act – without hesitation and being reassured that the side effects of a liquidity injection that we have seen for the 2011-2012 [three-year long term refinancing operations] would be minimised.”

Though it appears to us that the "side effects" of massive liquidity-driven demand for the bonds of the distressed nations smashing their risk to record lows while the economies of those nations languishes - is exactly what they wanted...

So again - it comes back to their reliance on the ECB's "we'll collateralize any-old-shit at Par" programs, its unintended consequence of driving the banks and the sovereigns even more symbiotically intertwined, and its inept belief that the stress tests to be undertaken next year will solve all the problems...

And Italy may be screwed...

Wondering why the Italian bond market has been stable and "improving" in recent months, with yields relentlessly dropping as a mysterious bidder keeps waving it all in despite the complete political void in the government and what may be months of uncertainty for the country, and despite both PIMCO and BlackRock recently announcing they are taking a pass on the blue light special offered by BTPs? Simple. As the Bank of Italy reported earlier today, total holdings of Italian bonds by Italian banks hit an all time record of €351.6 billion in February.



Why are local banks loaded to the gills in the very security that may and will blow up their balance sheets when the ECB loses control of the European sovereign risk scene as it tends to do every year? Because courtesy of ECB generosity, Italian debt continues to be "cash good collateral" with the ECB, and as a result Italian banks can't wait to pledge and repo it with Mario Draghi in exchange for virtually full cash allottment.

In other words, the more debt the Italian Tesoro issues, the more fungible cash the Italian banks have to spend on such things as padding up their cap ratios and making their balance sheets appear like medieval (any refernce to Feudal Europe is purely accidental) fortresses.

Until - the ECB changes the rules...

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
AUD's picture

Good luck with that, sovereign bonds are the capital. Hence why there is no capital.

NotApplicable's picture

Now, exactly why would the BIS assign zero risk-weights, again?????

Someone's "setting us up the bomb," central-planning style.

SafelyGraze's picture

is that the same Mr Praet who said "if actual non-zero-valued collateral is required to continue the ECB's various Operations and Vehicles and Facilities and Programs, we can always rely on our friends in PRC to lend or return gold stores to our custodial stewardship for these purposes, whether through deliberate opiate-import actions as have been undertaken in the past, or through joint exercises between France and other NATO countries such as the ones ongoing in the various African states."  

or was that Mr Barroso

booboo's picture

Thats funny because if you jumble the letters around "Sovereign" spells Sov Renigs...just sayin

DYS's picture

It also spells shut the fuck up.... just sayin

booboo's picture

Let me guess, mom forgot the Double Stuffed Pizza and your poop sock needs to be emptied?

Colonel Klink's picture

Close, mom just rerouted the poop sock back into his mouth.  Keeps him fed!  Mom is eating the pizza herself.

Ghordius's picture

Not the first time French or Italian banks are in this situation. Plenty of historical precedent about what to expect

point is, does the ECB council want to change the rules? under what rationale, during this stage of the currency wars?

Solon the Destroyer's picture

This is a game-changer if they actually do it.

Even speaking of it is a game-changer.

I can't believe this mouthpiece, I mean official, was actually allowed to speak into a microphone about this.

Are they floating a trial balloon?  Do the winds seem so calm right now that this is a good time to be floatin lead balloons hither and thither?


starman's picture

"try to hold capital" like try to hold your breath for three minutes and see what happens.

BurningFuld's picture

"hoover up" They didn't actually use that term did they?

WTFUD's picture

ECB admits Sanitary Towels do leak.

Al Huxley's picture

So it seems that by emphatically asserting their willingness to do whatever it takes to perpetuate the fraud, they're hoping the EU can 'fraud' their way out of insolvency.  Seriously, how fucked up, how much more obviously pathetic can this shit get before it finally hits a fucking wall and SOMETHING, SOMEWHERE breaks back to reality?

NotApplicable's picture

You act as if they have a choice.

Well played, NWO. Well played.

GVB's picture

Hm. IMO Bail-in will shock people which will force the entire EU to impose capital controls. "whatever it takes" might very well blow up big time. 99% of the herd doesn't even know what Bail-in is. Draghi seems to be determined to do whatever it takes to enrage alot of people by imposing efforts to "regain confidence" among investors... He will sure learn what "enough" means. I think that's the wall you refer to..

disabledvet's picture

DB USA blows up and the ECB policy shatters like glass causing the whole European banking edifice to implode. Cue to "phase II" where tanks not banks become instruments of State policy. Move along...

highly debtful's picture

Great, in Europe we have our very own Yellowstone supervolcano: our banking system. Can't wait for the results of those next stress tests. 

Madcow's picture

I wish they would just let Europe collapse already.  Its like being at the dentist and knowing you need a root canal.  Better to just be done with it than to keep putting it off.  

This whole "collapse of the West" is like an anvil hanging over the economy. I won't be able to relax until I see the other shoe drop.

falak pema's picture

Basically the EU is caught between the devil and the deep blue sea; its inherent fallacies of origin highlighted by the anglo capitalist collapse, enhanced by its own structural imbalance between north and south models that cannot withstand this double whammy, both endogenous as exogenous relative to the Euro construct. 

1° The original sin is the monetary construct based on a false, hypocritical, ill thought out political alliance of cold war vintage days, a half baked "open" market in a fully dispersed fiscal national disparity, trying to hold together via monetary sleight of hand a non federated fiscal disunion. The true logic should have first created a political union BEFORE monetary union. Here we have cart before horse! 

2° The collapse of hegemonial dollar economy under financial strain and NWO oligarchy hubris, the papering over the private financial debacle via TARP only spread further like a raging plague the financial disease from private to public ledger, without remedying the root cause of corruption disseminated by the private sector. The run away oligarchy economy of Reagan-Thatcher concoction, has left the Eurozone toothless and bloodless as coopted twin pillar of global power play.

Only Germany withstands the western collapse but is now caught between financial mutualisation to save the bastard union or cutting the umbilical chord and facing the loss of revenue and wealth from its core Euro partner markets.

Germany risks to die as vibrant economy either way. Its current choice of balancing act is unsustainable and logic will probably play out to pushing it towards the mutualised route. Better to suffer in a coherent political compact the slings and arrows of US petrodollar decay and resultant tsunami collateral effect, whose incestuous links are now endemically entrenched in its own corrupted banking sector which has bought into the US model since 20 years, just as its own MIC and security systems have bought into the totalitarian NSA/CIA compact. 

You can't win on all fronts, its one or the other. But the writing is on the wall and Merkel will be forced to choose the socio-political compact; in a new configuration where its role will be stronger in a leaner and anaemic Europe which has to find a new paradigm in global reconfiguration. The East is now rising and the West is old and retrenching. No getting away from this reality for this 21 st century. All the more reason to think clearly and win back the long term judiciously. As the challenge facing the world is of a more vast and ecological nature. We are in tipping point times, in peak RM supply to feed an overpopulated planet now caught up in a vast geographical and structural realignment. 

And that is a challenge way beyond the current financial conundrum which is but a symptom of this awesome change of human trajectory affecting our western civilization "ends and means" of what we call the capitalist and consumerista model of living. 

This assumes that the forces of irrationality do not force the prevalent hegemonial economy to take on its rivals for world resources in a military confrontation that would put civilization back by a huge quantum jump. 

skank's picture

Pot admits kettle is black.

f16hoser's picture
"ECB Admits Sovereign Bonds Are Not Riskless."

WOW! A glint of honesty. One more reason to own Physical Precious Metals.