Making an impact

I said a little while ago:

To make a real difference, the central banks need to parachute in hundreds, not tens of billions.

And now (from Bloomberg):

The European Central Bank loaned 348.6 billion euros ($501.5 billion) for two weeks to banks to bring down the cost of money at year-end.

The FT comments further:

Emergency help for financial markets entered new territory on Monday as the European Central Bank announced it would on Tuesday offer unlimited funds at below market interest rates in a special operation to head off a year-end liquidity crisis.

The surprise move, which follows last week’s co-ordinated barrage of measures by the world’s central banks to increase market liquidity, suggests the ECB is still frustrated at the failure to ease financial market tensions.

[...]

“This is basically Father Christmas to those who have access,” said Erik Nielsen, economist at Goldman Sachs. “They are bailing out people who have not really adjusted their balance sheets to the new reality.” But Julian Callow, economist at Barclays Capital in London, said the ECB was “simply doing their job at being lender of last resort”.

The ECB had announced that Tuesday’s weekly money market operation would mature on January 4 – covering the year-end. But on Monday night it said it would satisfy all bids offering 4.21 per cent or more. Prior to the announcement, the cost of borrowing two-week money hit 4.9 per cent but it fell sharply afterwards as the ECB move in effect put a cap on market interest rate.

The ECB said the move was “fully consistent” with its aim of keeping interest rates close to its main policy rate of 4 per cent.

The latest move underlines the limited impact of last week’s co-ordinated central bank intervention and highlights continued operational differences between the ECB and the more incremental Fed and Bank of England.

This is starting to make sense. Some people think that banks are hoarding funds because they fear further big credit losses next year and they don't trust their counterparties. While that might explain a small part of the drying up of liquidity, I don't buy it as the explanation for most of it. I think most people are only just waking up to the magnitude of the demand for liquidity in the current environment. To illustrate this further, consider CDO issuance. In the first two quarters of 2007 this was around $175B (per quarter). In the third, it was $63B. The difference has to come from somewhere: those assets need to be funded. So that alone creates a $110B need. Add in ABCP (from $1.2T to $800B) and you get another $400B. That's half a trillion dollars of extra liquidity just from those two sources. Keep those helicopters in the air, Ben, we need the money.