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Thursday, March 1, 2012

Europe gives second round of funding of € 529.53 billion or Rs. 34,94,898 Cr !!!

European Central Bank gave second 3 year discounted loans to the banks under LTRO.

LTRO stands for ‘Long-Term Refinancing Operation’ and is a monetary tool used by the European Central Bank to help pump liquidity into the banking system. The ECB offers European banks long term loans at the prevailing ECB interest-rate. The recent “LTRO” and “LTRO 2″ are 3-year loans at 1% interest rate. However, these operations have been carried out in the past with other, shorter maturies, such as 3-month loans back during the 2008 crisis. ECB offers LTRO during emergencies such as the funding crisis that hit European banks at the end of 2011. Usually when a particular bank gets into trouble and is in short of money to finance its operations, it has to go to the private market like private sector banks or financial institutions for those funds and when it cannot, due to the price to borrow is too high, or funds have pulled back from a particular bank (because of exposure to Euro-zone periphery debt) it needs to rely on funding from national central banks or from the ECB. The part of the purpose of the LTRO is to give banks a chance to participate again in the “Carry Trade” of European sovereign bonds. By being able to borrow at 3-year maturities banks can use those funds for buying shorter term government debts with higher yields. Carry Trade means borrowing in Euro € (any currency) converting them into US$ (or any currency) and route those $ into India (or any country).

European Central Bank allotted € 529.53 billion (Rs. 34,94,898 Cr) for 1,092 days under the refinancing tender were 800 banks asked for the three year loans. Since the expected range was around € 200 billion (Rs. 13,20,000 Cr) - € 1 trillion (Rs. 66,00,000 Cr), and just above the median € 500 billion (Rs. 33,00,000 Cr), this is clearly within the expectation. What is certainly scary is that the number of banks demanding a hand out was a whopping 800, well above the 523 banks from the LTRO 1 were ECB allotted € 489 billion (Rs. 32,27,400), this clearly points that many banks are capital deprived. LTRO will help out the entire country. Spanish and Italian banks, the biggest buyers in the last operation, used their holdings of their own sovereign bonds as collateral for the LTROs. This helped reduce sovereign bond yields, which were threatening to stay at unsustainable levels that would make debt repayments impossible.

Now, the ECB will collect 1 % on combined total of € 1.018 trillion (Rs. 77,88,000 Cr). It’s wished that these banks will find its way to monetize this in Carry Trade opportunities. Usually, equity markets tend to rally whenever there is any easing of liquidity directly or indirectly by the central banks. It is partly due to sentiment, and partly due to money actually flowing into risk assets like equity. Liquidity easing by central banks leads to lowering of bond yields, and also assures investors that the crisis has been averted. Besides, banks may use a chunk of the funds for 'carry trade'- as said above. At the peak of the 2007 Bull Run, many investors would borrow in yen, convert those into dollars, and then deploy the dollars in risk assets like emerging markets equities.

But LTRO should not be looked as the only solution for Europe. It will only improve the liquidity in the system, and reduce some of the problems that otherwise may have been aggravated by a liquidity problem. But it will not address the fiscal problems in weaker Euro zone economies like Greece and Portugal, among others. Most economists are of the view that Europe is headed for recession, irrespective of LTRO. 

As for our India , many experts believe that this money will not leak into emerging market. They believe that these monies is primarily to make sure that Europe doesn't have a credit crunch and stays primarily in Europe. The money flow to India will depend on India ensuring that it has friendly investment climate to attract those funds, India has to free up its economy more from deficits. Since the beginning of the 2012 the FII's have infused a total of Rs. 24,225 cr  (US$ 4 billion) into Indian stocks. In the first 17 days of the February 2012 they have infused about Rs. 13,867 cr way higher than that of the entire month of January 2012 which stood at Rs. 10,358 Cr.

Hope this time too they bring in such kind of money - the trigger they would be watching would be Budget    

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