Whenever the true nature of a miscreant is discovered, people always gasp in surprise. People begin pointing to his sterling public image. Madoff was a philanthropist. Sandusky volunteered much of his free time to work with children. Haggard led a church.
Since people judge others by their public persona, others always will use this human trait to their advantage. A bad guy can always hide in plain sight behind a good public image.
That brings us to today’s topic, European banks. Since everyone decided that a large repayment of the LTRO would be read as a sign of strength for the institutions repaying their loans, there is an incentive to repay the loans to appear strong.
Other ECB funding methods still exist for these banks, so it is quite possible that they merely replacing LTRO with other programs. Moreover, this repayment does not illustrate the health of the banks. In fact, I say it shows their weakness. These banks are deleveraging in an attempt to strengthen themselves. This deleveraging process ensures continued economic weakness in the periphery; note the charts above.
Three indicators that show that these banks are still hungry for capital are the EURO/USD exchange rate, the Euribor rate and the shrinking loans to the private sector in the periphery.
The Euro has remained strong despite the Eurocrisis and has risen nicely in the last few days. This is to be expected as European banks sell their international assets and convert the proceeds to euros to fortify their balance sheets.
Additionally, Euribor, the European Interbank Overnight Lending Rate, has risen from .23% to .51% in the last few days. While much is made of the interbank lending market opening up, a small increase in demand from the payment of LTRO has caused the rate to more than double. And this is for the healthiest banks. Most banks still are unable to access private funding and rely on the ECB. Keep in mind only €137bn of over €1tr have been repaid meaning that about €900bn worth of loans remain outstanding.
Europe needs banks to increase lending to fund an economic expansion, but they continue to reduce bank loans to the private sector. The top of the post illustrates the reduction of lending to the periphery, but the problem extends to the entire Eurozone:
Most of the decrease is accounted for by the periphery, but loans have been basically stagnant in Germany:
So, banks seem to have all the liquidity they need but refuse to make new loans reducing their balance sheets to hoard capital. There is a vicious cycle developing here. Banks are reducing loans, which reduces economic growth, which reduces demand, which reduces the need for loans, which weakens the banks. This dynamic is why monetary policy is insufficient to spur an economic recovery. Europe may be surviving, but it is not thriving.