Days to the General Election: 24
See Party Policies here. Party Lists here.

BusinessDesk: 'If this was it, the market [will] become disillusioned quite quickly again. There’s going to need to be follow-up of a more substantial order.'

BusinessDesk: 'If this was it, the market [will] become disillusioned quite quickly again. There’s going to need to be follow-up of a more substantial order.'

Equities advanced as central banks moved to boost liquidity by cutting the cost of US dollar funding in an effort to contain the impact of the euro zone's fiscal crisis on the global economy.

The US Federal Reserve, Bank of Canada, Bank of England, Bank of Japan, European Central Bank and Swiss National Bank agreed to lower the interest rate on US dollar liquidity swap lines by 50 basis points. China said it reduced the reserve requirement ratio for banks by half a percentage point from December 5.

"The purpose of these actions is to ease strains in financial markets and thereby mitigate the effects of such strains on the supply of credit to households and businesses and so help foster economic activity," the Fed said in a statement.

Markets on both sides of the pond welcomed the initiative. The Dow Jones Industrial Average soared 3.60 percent, the Standard & Poor's 500 Index climbed 3.46 percent, while the Nasdaq Composite Index rose 3.49 percent.

In Europe, the Stoxx 600 Index finished the session with a 3.6 percent gain. The euro also benefitted, rising 1 percent to US$1.3450

“It’s been a major risk-positive move,” Alan Ruskin, global head of Group-of-10 foreign-exchange strategy at Deutsche Bank in New York, told Bloomberg News. “This addresses the funding issue, but if this was it, the market would become disillusioned quite quickly again. There’s going to need to be follow-up of a more substantial order.”

European Union finance ministers agreed on Tuesday night on detailed plans to leverage the European Financial Stability Mechanism, but could not say by how much because of rapidly worsening market conditions, prompting them to look to the International Monetary Fund, according to Reuters.

"We are now looking at a true financial crisis - that is a broad-based disruption in financial markets," Christian Noyer, France's central bank governor and a governing council member of the European Central Bank, told a conference in Singapore.

As the debate continued on the role of Europe's central bank in combatting the region's crisis, a Reuters poll of economists showed a 40 percent chance of the ECB stepping up purchases with freshly printed money within six months, something it has opposed so far.

The poll forecast a 60 percent chance of an ECB rate cut to 1.0 percent next week and a big majority of economists said they expected the central bank to announce new long-term liquidity tenders to help keep banks afloat at its next meeting on December 8.

Meanwhile, the latest data on the world's largest economy were yet again encouraging. The private sector added the most jobs in nearly a year last month, while business activity in the US Midwest expanded faster than anticipated in November.

Separate data indicated pending sales of existing US homes climbed in October in its biggest monthly gain since November 2010.

"There's a perfect storm of bullishness. PMI came out better than expected, plus what happened overseas, and ADP was well above consensus," Donald Selkin, chief market strategist at National Securities in New York, told Reuters.

It seemed that investors paid little attention to the downgrade by Standard & Poor's late on Tuesday to the credit ratings of 15 major banks, mostly in Europe and the US.
S&P slashed the credit ratings of JPMorgan Chase, Bank of America, Citigroup, Wells Fargo & Co, Goldman Sachs Group and Morgan Stanley all by one notch.

(BusinessDesk)

We welcome your comments below. If you are not already registered, please register to comment.

Remember we welcome robust, respectful and insightful debate. We don't welcome abusive or defamatory comments and will de-register those repeatedly making such comments. Our current comment policy is here.

19 Comments

Ron Paul's statement on Fed's bail out of  Europe.

Rather than calming markets, these arrangements should indicate just how frightened governments around the world are about the European financial crisis.  Central banks are grasping at straws, hoping that flooding the world with money created out of thin air will somehow resolve a crisis caused by uncontrolled government spending and irresponsible debt issuance.  Congress should not permit this type of open-ended commitment on the part of the Fed, a commitment which could easily run into the trillions of dollars.  These dollar swaps are purely inflationary and will harm American consumers as much as any form of quantitative easing.

This will have absoltely no effect, because banks aren't constrained due to lack of liquidity. They create liquidity. All the Central Bank does when it provides extra base money is maybe lower the price of credit, not its quanity. What the world is lacking is solvent borrowers or those willing to invest in today's troubled economic environemnt. Plenty of those living in China, but that only helps European or American banks who are able to fulfill Chinese demand for foreign exchange, but then China has more than enough of that already, lol.

More can kicking down the road toward the abyss. Will almost be amusing to witness the world's powerbrokers who are now following the can with their eyes closed,  fall over the edge before dragging us all down with them. The joys of internet access.

Anarkist..

How do banks create liquidity...????    If depositors are withdrawing money..how on earth do banks create liquidity

In a liquidity crisis... it is not a lack of borrowers...  BUT rather,  a lack of lenders.

Cheers  Roelof

Roelof,

Banks create credit simply through the mechanism of the double entry bookkeeping system. For those demanding loans to pay for a house for example, banks simply credit the account of the borrower who then transfers the money into the account of the current owner to effect the transaction. This creates a deposit and the borrower then has a loan contract that he is obliged to honour. For long term savers, they receive a share or margin of the interest that banks charge in exchange for deferring spending and until the maturity date of their debenture arrives.

The role of the Central Bank is to merely monitor the soundness of the banking system and to fulfill the conditions under whatever government agreement they're bound by. The United States has to accomodate two agendas, employment and pricest ability, whilst ours just has to fulfill demand for price stability. Initially after the Douglas reforms of the 1980s and the deregulation of the financial markets, the New Zealand Reserve Bank, followed the precepts of Milton Friedman's monetarism and they themselves admit, attempts to directly control the money supply dismally failed and as soon as it was recognised, they quietly abandoned it in favour of the interest rate targetting policy which is premised on demand, not supply management through the price of credit.

8. Partly because stable relationships never developed between the narrow banking system quantities (PL or settlement cash) and relevant measures of spending or economic activity, the newly-liberalised interest and exchange rates proved to be very volatile.5 ...The absolute level of the settlement cash target was by now recognised as having little or no intrinsic macroeconomic significance. The ability to change the cash target as required gave us all the leverage we needed to influence financial markets. But although we had a powerful lever, and a gradually-emerging specific inflation target, there was no direct or reliable connection between the two, without additional guidance to condition financial market responses.6  

http://www.rbnz.govt.nz/monpol/review/0096178.html 

For a simplified description of how the banking system works, read the Reserve Bank of New Zealand publication below.

http://www.rbnz.govt.nz/research/bulletin/2007_2011/2008mar71_1lawrence.pdf 

Anarkist,

"Banks create credit simply through the mechanism of the double entry bookkeeping system. For those demanding loans to pay for a house for example, banks simply credit the account of the borrower who then transfers the money into the account of the current owner to effect the transaction "

You are partly right..  the banks do credit the acct of the borrower with an electronic entry....lets call it an "IOU"

The depositor takes that "IOU" and transfers it too the acct of the person who he is doing the deal with.

At the end of the day the recieving bank of the "IOU" ...calls it in...   and the Bank who created the IOU has to settle it by  paying over "real money"... they do this thru the payments system.

This where Banks are constrained in creating "IOU"  credit money..   They have to settle their accts thru the payment system of the Central bank....  each day

In aggregate the Banking system can expand the money supply because , only a proportion of the IOU money gets settled each day......  and also this credit money has become accepted as a form of money.

So... u can see that there is are 2 processes going on...  One dealing with 'IOU" credit money and the other dealing with "real money "

Banks get into trouble when they run out of "real money"....   and can't settle their accts.

eg. If a depositor withdraws his money the Bank must settle with "real money"

This is one of the main reasons Central Banks were created in the first place... They are the lenders of last resort  and the only ones who can create "real money"....as opposed to credit money , which banks create.

They are the providers of "Liquidity"... which is just a nice word for creating "real money" ...which they also call highpowered money..... base mony

 "...followed the precepts of Milton Friedman's monetarism and they themselves admit, attempts to directly control the money supply dismally failed and as soon as it was recognised, they quietly abandoned it in favour of the interest rate targetting policy which is premised on demand, not supply management through the price of credit." 

Yes...  and this is the reason we have the Global problems that we have today...  Cental Banks have negligently shown a complete disregard for the Monetary aggregates. ... The insatiable demand for credit and leverage has brought us to our current problems.... Milton Freidman was right...  but like u say , controlling Money supply is very difficult, especially in todays world where money can take different forms ( such as derivatives).

Getting back to the original point...   Banks are impotent in creating Liquidity if no one whats to lend them "real " money... or wants to inject Capital.

The current Central Banks efforts are about saving the Banks and providing liquidity .

 

 

"This where Banks are constrained in creating "IOU"  credit money..   They have to settle their accts thru the payment system of the Central bank....  each day."

No they don't, they settle balances through the interbank settlement system which has functioned since the 1980s. Base money is merely one of the tools that Central Banks use to manage the price of money. They don't manage the quantity of money, because they can't. They tried in the 1970s and 1980s and failed abysmally. They couldn't because, its not practically possible. As long as capitalism exists there will be an insatiable appetite for credit. Credit is a core feature of human economies dating back to Ancient Times. You can argue pre monetary economies were defined by implicit credit relationships. There are few records of societies where barter relationships prevailed.

Anarkist,  Interbank settlement happens via the central bank.   Each bank has an account at the central bank for this purpose or it has to bank with a settlement bank that has such an account.   All the payments systems are settled via these accounts which are not allowed to be overdrawn.    But as Roeloff points out two banks do not have to settle and generally speaking banks with arrangements with each other borrow at their agreed in advance rates via accounts they hold with each other.   And in normal times the interbank market enables unsecured borrowing at for example near the LIBOR rate.   So the bank creates a loan, arranges to send the money over to the other banks and then settles either in real time via the central bank or by arrangement interbank where it pays interest to the receiving bank.

A bank that cannot borrow money is finished and has no way of creating settlement money.  It will have to sell assets or get more capital.   Generally speaking a bank has plenty of available settlement money - much of which is invested with other banks just like your own money is invested with a bank,  Banks with no settlement money are crashing and have lost the confidence of their lenders.

Thats kind of besides the point Andrew. I am only too aware of how the monetary system works. The topic of the discussion was, who creates liquidity. And the answer, derived from testimony of the world's premier banking authorities, was private banks. End. I also said that Central Banks remit is primarily constrained to managing the price of money via Open Market Operations and Reserve Management. You have said nothing to refute this.

btw. The power of the Federal Reserve in America is muted by the development of private interbank settlement systems and the shadow banking system. Yes its blown up in the faces of the banksters, but thats rather predictable considering the sheer amount of data, and exegenous variables they have to deal with.

"Third, reserves with central banks are often held as a necessary means of settling interbank transactions. This gives the central bank leverage to affect total deposits by means of small operations. Yet the evolution of private clearing mechanisms like the US net settlement system CHIPS threatens to erode the central bank role even here. The combined results of all these developments could well be to reduce, perhaps to the point of elimination, the need for bank reserves and even the need for banks and cash altogether."
http://www.samuelbrittan.co.uk/text14_p.html

 

Anarkist.. ok.. my understanding is that the payment system is run by the Reserve Bank and the accts that Banks have with the reserve Bank.

The interbank mkt could be something else..????

The point I'm trying make thou...  is that a bank has to honour that " created out of thin air deposit / IOU"

At the end of the day it has to transfer "money" into the recieving banks acct. at the Reserve Bank.... ( it can't create this... out of thin air... as an "electronic deposit".... thou it can borrow the money from the Reserve bank)

Banks are constrained in how much money they can create as credit.

AND... I would argue that a Cpaitalistic system could exist with minimal amounts of credit.

There are other forms of Capital raising... Borrowing is just one of them.

I actually label our form of Capitalism as... "Debt Capitalism".

 

Roelof

If the banking system creates deposits in the way you have explained, they can then attract these deposits as capital or as liquidity from anybody willing to invest in the bank.   Liquidity just means the ability to pay.    If you borrow a deposit you have the ability to pay and since you and other similar firms create deposits,  *if* you as a group of banks can create good  loans,  you dont have a liquidity problem.

So in that sense the liquidity in the system *is* dependant upon the signatures of the borrowers who enable the creation of deposit money that the banks can then attract to meet their payment obligations.

I agree though that the term 'money out of thin air' is misleading.    A bank loan is just like writing a personal cheque for a purchase where we find sellers to lend to us so we do not have to clear that cheque.  We created the means of exchange via our signature and we did create money out of thin air.

Andrew..  

If the banking system creates deposits in the way you have explained, they can then attract these deposits as capital or as liquidity from anybody willing to invest in the bank.   Liquidity just means the ability to pay.    If you borrow a deposit you have the ability to pay and since you and other similar firms create deposits,  *if* you as a group of banks can create good  loans,  you dont have a liquidity problem.

Yes...  and that requires "confidence"....  ( people used to que up at banks to withdraw their deposits ..back in the depression yrs...A Bank run )  ... 

AND... when u consider that banks borrow short and lend long....  a liquidity crisis is easy to come by.     

I agree with what u say... As long as there is credit growth there are no liquidity problems...  but we seem to have reached the limits of that.

cheers Roelof

 

 

 

.             

 

 

 

Andrew...  Sounds like u are in Banking..????  u seem knowledgable

Just an amateur.   Like many of us i have spent some years working thru some of this stuff and treated it for years as a fairly major research project to the exclusion of other parts of my life,  and learnt a huge amount from others along the way.    

mist42nz,

No, in actual fact, government borrowing isn't from thin air. One of the few components of the banking system that isn't actually. The government securities markets around the world, now fundamentally serve as a reserve drain, to assist Reserve Banks in managing credit demand, through the price mechanism (interest rate).

"Reserve forecasters at the New York Fed and at the Board of Governors in Washington, D.C., compile data on bank reserves for the previous day and make projections of factors that could affect reserves for future days. The staff also receives information from the Treasury about its balance at the Federal Reserve and assists the Treasury in managing this balance and Treasury accounts at commercial banks.

Following the discussion with the Treasury, forecasts of reserves are completed. Then, after reviewing all of the information gathered from the various sources, Desk staff develop a plan of action for the day.”

http://pragcap.com/n-y-fed-explains-government-spends-issues-bonds

Anarkist..

Now I see where u are coming from..  U are into the MMT theories.

MMT is an intersting way at looking at money ..but are far from accepted as being the "truth".

I have read some things that Warren Mosler has written ..and have ordered his book.

BUT... although I agree with some things ... the overall philosophy , I disagree with.

just like there are different schools of economics ... there are different schools on Monetary systems and theories.

No theory has ownership of the truth... but some" map the territory" better than others.

I have nothing to prove... I only post for my own better understanding and sharing of views.

( u seem to have quite strong views )

Cheers  Roelof

 

Roelof,

No I'm not into "theories". I'm an empiricist. I'm only coveying my observations of how the world actually works, by drawing upon testimony written by people who actually are involved in institutions whose actions we are commenting upon. 

Neoclassical theory constitues a futile effort to force reality to conform to their baseless theories. Its profoundly unscientific. On the matter of money they confuse cause and affect and fail to recognize that (wrong)  perceptions can be as powerful as the workings of the market mechanism.

The *beginning* point of what Anarkist has said *is* correct.       The bank creates a balancing double entry 'loan account entry' .     But this only equates to two balancing promises where the bank agrees to lend and you agree to repay.

The bank therefore creates credit and providing it can find a creditor it need not pay out actual cash money.  

By regulation however, the loan account entry does not create a balancing asset that can be used by the bank as the banks own asset for capital adequacy purposes, until the loan money is used by the customer or is as cleared funds.   Most loans are not providing cleared funds so most bank loans do not 'create money' until the deposit is held by another customer who is owed money rather than has money.

NZ banks are very much constrained by available money supply which is why they borrow from overseas banks and charge such high interest rates compared to other countries.

Gosh...

If only I could get unlimited money at super low interest rates...  I'd do the right thing ( just like the banks )...  I'd use it to buy Govt. Bonds...   ( To hell with the "real economy" )

Yep... Buy govt . bonds... clip the ticket.... ( no need to worry about risk )... Then as the profits keep on rolling in ... very quickly pay myself some good bonuses...

Ahhh.... To have a Central bank as my " Dad ".....   He helps me out every time..!!!

Days to the General Election: 24
See Party Policies here. Party Lists here.