ECB’s capital raising issue

ECB proposes to ask Euroarea members to raise its capital base.

ECB’s subscribed capital by members is EUR 5.8 billion, compared with a balance sheet of almost €138 billion (heavy file) in Dec 2009 (latest we have). And then it has bought EMU sovereign bonds worth EUR 72 billion. So it is weary of making losses on these bonds and also wants more firepower to fight any future concerns. A higher capital will provide markets some confidence as well:

The ECB is considering requesting an increase in its capital to help cope with the rising costs of fighting the euro zone debt crisis, euro zone central bank sources told Reuters.

ECB disclosed that it had increased its purchases of euro zone government bonds to 2.667 billion euros ($3.5 billion) last week from 1.965 billion euros a week earlier. It was the biggest weekly total since June but well below levels seen at the height of the euro zone crisis. Altogether, the ECB has bought 72 billion euros in bonds — exclusively Greek, Irish and Portuguese, analysts believe — since it began intervening in May to stabilize markets. Two major international financial institutions said EU paymaster Germany had aggravated the crisis with talk about making bond investors pay in future, but Berlin seems set to get its way on that issue at this week’s EU summit. 

Eurointelligence says does ECB needs to bailout itself?

Reuters Breakingviews asks the question: Does the European Central Bank need its own bailout? The ECB’s subscribed capital €5.8bn, against a balance sheet if €138bn as of end-2009 (i.e. before the bailouts started. We are probably looking at €200bn now).  The end-2009 leverage ratio of 24 was higher than is considered best practice for a commercial bank — and not too much lower than that of, say, Lehman Brothers when it went bust, Breakingviews helpfully points out. A similar ratio applies to the eurosystem as a whole. The real risk is a default. If any of the peripheral nations were to default or restructure the ECB/Eurosystem would be in big trouble. The good news is that recapitalisation should not be too hard. A doubling of its capital would cost €5.8bn.

FT Alphaville has a very interesting note on an article written by Peter Garber who explains the ins and outs of a capital flight, and how it affects the ESCB and national fiscal authorities.

Germany’s official said it would look at this positively and is willing to provide capital if Trichet requests. It is the largest subscriber of ECB capital at 18.9%, followed by France at 14%.

European Union paymaster Germany said it would support giving the ECB more capital to help fight a sovereign debt crisis that continues to shake the euro zone. ECB sources told Reuters the bank’s governing council would consider at a meeting on Wednesday and Thursday whether to seek a capital increase from euro zone members to cover the risk of losses on government bonds it has bought to support the 16-nation single currency area. A Berlin government official said  Jean-Claude Trichet might raise the matter at a dinner with EU leaders. The German official said a bigger capital base would show financial markets that the central bank had the firepower to buy new government bonds if needed.

 Klaus Adam, of Mannheim University says ECB should raise capital:

Looking at the Eurosystem’s consolidated balance sheet today, the ECB should have enough capital to absorb any losses resulting from a sovereign default. But ECB president Trichet has made it clear that the ECB stands ready to put more money on the table. That’s when the risk arises.

Consider this: The ECB tries to prevent a run on the bonds of a large euro-zone country by buying large volumes of government bonds, as it has done for Ireland, Portugal and Greece. If the problem subsequently turns out to be one of solvency, and not liquidity, and the country defaults on its debts, then ECB’s capital could be wiped out.

The ECB would then be in the uncomfortable situation of having to ask the national central banks of the Eurosystem for a re-capitalization. Such a move requires a qualified majority. It easy to imagine that gaining support for such a move is difficult when a major euro-zone country is in default, because countries then tend to focus more on their own national interest.

And negative equity is a problem for the ECB! It means that the ECB will have to print money to make up for a revenue shortfall as liabilities exceed assets. At worst, the ECB will have to abandon — secretly or openly — it’s price stability objective. To prevent such a precarious situation a capital increase is required now.

Interesting stuff. In ECB’s case, there are so many contributors that best to raise it asap. Takes me back to initial days of crisis when there were talks of Fed becoming bankrupt. Bank of England handled this issue really well with Exchequer saying upfront that all losses on BOE’s balance sheet would be taken care of. Fed was slow on this and ECB has too many members to take capital from.

Central banks and their capital levels…a topic worth relooking at.


3 Responses to “ECB’s capital raising issue”

  1. Tweets that mention ECB’s capital raising issue « Mostly Economics -- Says:

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  2. ECB raises its capital.. « Mostly Economics Says:

    […] raises its capital.. By Amol Agrawal After much talks and hype, ECB raised its capital from EUR 5.76 bn to EUR 10.76 […]

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