Bankruptcy of SVB, takeover of Credit Suisse by UBS… the concern is palpable on the financial markets following a dark week for the banking sector. A situation that prompted central banks to intervene. Fast and strong. The European Central Bank (ECB), the Bank of Canada, the Bank of England, the Bank of Japan, as well as the American Federal Reserve (Fed) thus decided on Sunday to strengthen the “lines of swap in other words, to further facilitate access to the dollar for national banks. What is this device? Why strengthen it? Is this the sign of a real risk for the European banking sector? Explanations.
What are the agreements of swap ?
There are several possibilities for commercial banks to obtain foreign exchange. First of all, they can lend these liquidities to each other. But in the event of excessive demand or strong tensions on the markets, the banks can contact the central banks to obtain it. The latter then draw on their reserves. But to avoid exhausting them, they have an instrument allowing them to exchange currencies with their foreign counterparts. Regularly, agreements of swap (“exchange” in English) are thus concluded between the central banks, including the European Central Bank (ECB) with the American Federal Reserve (Fed) in order to allow all the national central banks of the euro zone to receive dollars in exchange for an equivalent amount in euros.
These swap lines relate mainly to exchanges in dollars, the main currency for invoicing commercial exchanges, cross-border banking activities and international bond issues.
AT By way of example, central banks have in particular made use of swap in 2001 following the September 11 attacks. A large number of New York banks were no longer in working order and therefore unable to transfer dollars to European banks. To supply the latter and avoid any risk of payment default, the Fed and the ECB have therefore entered into a currency swap agreement.
This was also the case during the financial crisis that followed the bankruptcy of Lehman Brothers in September 2007, or during the market stress following the first containment measures during the health crisis.
During this period of great uncertainty, the dollar more than ever played its role of safe haven, increasing the demand for assets from customers of commercial banks in the euro zone. Also, the ECB “has reactivated lines of swap and reinforced those that existed with central banks around the world in response to the crisis situation”, explains the European institution. According to her, the agreements of swap thus constitute a “an important instrument in preserving financial stability and mitigating the effects on the real economy of tensions appearing on the markets”.
What’s changing this Monday?
However, tensions have been agitating the markets for several days, leading the ECB to announce in a press release published on Sunday that it has taken the decision with the Bank of Canada, the Bank of England, the Bank of Japan, as well as the Fed of “to take coordinated action to improve liquidity provision through the standing US dollar liquidity swap arrangements”.
It consists of “to improve the efficiency of production lines swap to provide funding in US dollars”by increasing the frequency of operations in US currency. “Until now weekly, these operations will now be daily.” And this from this Monday until “at least until the end of April”.
Concretely, “Central banks have made access to currencies unlimited, i.e. they will supply commercial banks as much as necessary and the rhythm will be daily in order to avoid any stress on the market as well as a crisis of cash”, points out Bruno Jacquier, economist at Atlantic Financial Group.
Should we be concerned to see the ECB, and its foreign counterparts, react in this way?
If fears continue to agitate the markets, the response of central banks by strengthening swap sends a reassuring message, replies Alexandre Baradez, head of market analysis for IG France. “The response provided is both large-scale, while being targeted at cash”he explains.
“It is above all a preventive actionadds Bruno Jacquier. Since 2008, central banks have learned from the great financial crisis and are opening these lines of swap as soon as they feel there is a potential need. They don’t wait for the banks to get into trouble.”.
“Many of these devices swap currencies mainly play the role of a safety net and have never been activated”, explains the ECB. « The objective is to supplement the commercial banks which are reluctant to lend to each other and avoid a panic that would cause a sharp rise in funding costs for European banks”adds the economist.
However, despite the reassuring words of the ECB or the Banque de France and the Minister of the Economy, Bruno Le Maire, on the health of European banks, uncertainty remains.
In question, the policy of raising interest rates pursued by a large number of central banks, including the ECB, to curb inflation. “Rather, the point of stress is that they raised rates very quickly at a time when growth was slowing down and the debt was very high, which led to the difficulties that the financial sector is currently experiencing,” analyzes Bruno Jacquier.
However, it seems unlikely that this situation will lead to a reversal of the European monetary institution. With the lines of swap, “Central banks are reacting while continuing to have the fight once morest inflation as a priority”, says Alexandre Baradez. Especially since responding by lowering interest rates “would give the feeling that there is a risk for the whole banking system and that the current tensions are the fault of the central banks”he concludes.
