In a note out yesterday, Citigroup Chief Economist Willem Buiter argued that the eurozone could be headed down the path of the Rouble Zone–the failed monetary union that developed in the wake of the breakup of the Soviet Union.
And according to his argument, new collateral requirements that are part of the LTRO are not helping it avoid this dreaded “Roublezonefication.”
The European Central Bank relaxed stipulations for the kind of collateral banks had to put up against (now cheaper) borrowing from national central bank (NCB) lending facilities as part of its early December liquidity measures. In particular, it made it allowed the Irish, Spanish, Portuguese, French, Italian, Cypriot, and Austrian central banks to accept riskier collateral in exchange for lending.
Essentially, Buiter contests, this dual standard of bank funding and the perseverance of disparities between central banks could be “dangerous and potentially disastrous decision[s],” because it means central banks aren’t subject to an overarching, stable policy that they have to follow during crisis:
Through the combination of a selective relaxation of collateral standards (for the soft Eurozone only), the de facto absence of central control over the terms and conditions on which the inferior collateral will be accepted, the availability of cheap Eurosystem funding on demand through the 3-year LTRO (and likely future ones to come) and the absence of central control over the size of the balance sheets of the NCBs in the soft Eurozone, all the ingredients for a Rouble Zone ‘light’ emerging in the Eurozone are satisfied.
Therefore, Buiter writes, deeper central control over the monetary union has to happen if the eurozone is to survive as a unit, and the banking sector is to maintain any stability.
Only with full banking union will the survival of banks be decoupled from the solvency of national sovereigns with very different degrees of solvency. Only with full banking union can there be safe passporting of banking licenses throughout the EA. With free entry into the entire EA banking market, the standardisation of collateral standards and intermediation practices will no doubt be accelerated.
On the other hand, relaxation of liquidity standards has been part of a monumental step to avert a banking crisis. It appears obvious to most observers that deeper fiscal union and an overarching central political and monetary mechanism is fundamental to the EMU’s survival. On some level, this little piece of the pie appears almost irrelevant in comparison to EU leaders’ continuing aversion to work for true political and monetary union.