European Stress Tests: "All Is Not Well" - ECB Likely To Delay Liquidity Unwinds Until Next Year Causing EUR Lift Off

How many more European trips will it take for Tim Geithner to explain just how the "stress tests" work to those damn ECB bureaucrats? Apparently they still haven't realized that the whole point of this sham is to make it seems that all is well, and pump billions of dollars into failing banks, all the while pretending that it is really the "smart money" doing the buying. To quote Market News: "Even as European Central Bank officials lobby for full disclosure of bank stress tests, they worry privately that publication of the details could show many banks in significant trouble, particularly in the periphery of the Eurozone, well-placed sources told Market News International." This should certainly help explain the parabolic, confidence "inducing" move in the EURUSD.

"Our surveys and research show that several banks in Europe have not taken the required steps towards restructuring and as a result they remain unsound," said one of the senior Eurosystem sources. "A lot of banks continue to depend heavily on ECB borrowing, and while it has been set up as a temporary measure, the banks have not taken the necessary steps to gradually stop relying on the ECB. This development creates problems as to the timing of the exit strategy," he said. "We continue to evaluate the ECB decisions constantly, but I do not expect any decision for an exit before 2011."

And this is supposed to inspire even completely sham confidence? Timmy must be pulling his hair out - he took all the European bankers over the script line by line, even offered to provide them some of our ubiquitous teleprompters, and they still don't get how this charade is supposed to work? Unbelievable.

We also learn that the "temporary" QE intervention is quite promptly becoming permanent.

A second senior Eurosystem official agreed that the exit "will not happen before 2011."  The central bank, he noted, believes that "the crisis is not fully behind us. Therefore the ECB will be there to announce measures if needed ... so that there will be no distortion in the financial system. It is too early to tell when the exit strategy will be put into effect."

This official said that "all options remain on the table about different kinds of purchases, including commercial paper."

At the same time, he also said that the ECB -- possibly this coming Thursday -- "will send a clear message to the markets that they should start putting into the back of their minds that the [central] bank will take back the measures it has implemented. The measures are not permanent, they are exceptional and temporary."

Some Council members already want to take back the ECB's sovereign debt purchasing program.

"The German bloc within the Council is pushing for an end date for the purchases, which [they believe] should be within 2010," the first senior official observed. "There is strong division within the Council as regards the extent of government bond purchasing by the ECB. Since the decision, which was not unanimous, there has been active debate as to whether the ECB should put a limit on those purchases," he added.

"However, the majority believes that it is too early to say when to stop or even put a ceiling on the purchases," the official said. This is because there is still no clear sign of a sustainable, even recovery and because officials want to see results of the stress tests in order to judge the state of European banks before taking any such decisions.

"There is no commitment to run [the bond-buying program] eternally," said another well-placed central bank official. "It will
end, but there is not a particular date."

He added: "It will end when it is not needed any more -- when there is a natural return to market equilibrium for these instruments -- buying and selling in the normal way." However, "we are still seeing distortions in the pricing of these bonds. And when you have that spread divergence and price distortion, it affects monetary policy transmission and justifies intervention."

All in all, just more euro "positive" news. Which in retrospect explains the bizarro parabolic move in the EURUSD.