Target2 Imbalances ....

[LuckyOne]

It seems that the weakest members of the EuroZone are very large net debtors to the ECB's clearing system with somewhat dubious collateral posted against those balances.

http://www.bloomberg.com/news/2012-03-13/soaring-target2-imbalances-stoke-german-risk-angst-euro-credit.html

http://www.bloomberg.com/news/2012-05-09/greeks-may-hold-510-billion-trump-card-in-renegotiation.html

If a weak member leaves the Eurozone and is unable to meet its Euro obligations (net of collateral) to the ECB, I assume that the ECB takes a loss and then makes a capital call on member banks (which are the central banks of the EU and not just the EZ so we are on the hook).

Does anyone who knows more about this that I agree with this characterisation? How much risk does the UK have to the imbalances within TARGET2? Is Germany's potential capital call at the ECB large enough that they will do almost anything to prevent the capital call that would occur if a weak member state were to leave and be unable to pay off its balance at the ECB?

I know that this is a very "small picture" question and nowhere near as much fun as the "big picture" questions but, as is often the case, the devil is in the details.

[plummet expert]

It seems that the weakest members of the EuroZone are very large net debtors to the ECB's clearing system with somewhat dubious collateral posted against those balances.

http://www.bloomberg.com/news/2012-03-13/soaring-target2-imbalances-stoke-german-risk-angst-euro-credit.html

http://www.bloomberg.com/news/2012-05-09/greeks-may-hold-510-billion-trump-card-in-renegotiation.html

If a weak member leaves the Eurozone and is unable to meet its Euro obligations (net of collateral) to the ECB, I assume that the ECB takes a loss and then makes a capital call on member banks (which are the central banks of the EU and not just the EZ so we are on the hook).

Does anyone who knows more about this that I agree with this characterisation? How much risk does the UK have to the imbalances within TARGET2? Is Germany's potential capital call at the ECB large enough that they will do almost anything to prevent the capital call that would occur if a weak member state were to leave and be unable to pay off its balance at the ECB?

I know that this is a very "small picture" question and nowhere near as much fun as the "big picture" questions but, as is often the case, the devil is in the details.

It is not real money anyway. They created an electronic phoney credit of Euros they then 'leant' to those needy countries

[Police]

There have been a few threads on this already. UK doesn't have exposure to target2. The Bundesbank on other hand - $500 Billion at the last count.

[Guest tbatst2000]

There have been a few threads on this already. UK doesn't have exposure to target2. The Bundesbank on other hand - $500 Billion at the last count.

I think the UK has indirect exposure as a shareholder in the ECB. If, as a result of losses under Target2, the ECB has to make an equity call, then the BoE will have to cough. From what I recall though, the non-Eurozone countries are only on the hook for a small fraction of the total so it's probably not a very big potential hit.

[LiveAndLetBuy]

There have been a few threads on this already. UK doesn't have exposure to target2. The Bundesbank on other hand - $500 Billion at the last count.

Yes I think Target2 has been in the news a lot in Germany. It is turning the Bundesbank into a "bad bank" and the longer it goes on the more it will get sucked in, and the harder it'll be for Germany to leave the euro.

[LuckyOne]

There have been a few threads on this already. UK doesn't have exposure to target2. The Bundesbank on other hand - $500 Billion at the last count.

I must have missed them. I spent quite a bit of the spring abroad and didn't access the site much.

I understand that the BoE doesn't have much direct exposure to Target2 as the EUR activity of the BoE is negligible.

My understanding of Target2 is that each member bank has a balance with the ECB (some negative and some positive) rather than with each other i.e. Target2 functions as a clearing house.

The exposure of the ECB to the weak countries is their net Target2 balance, the ECB's bond holdings of the weak countries and the LTRO and other financing balances to weak banks in weak member countries.

I thought that we could have a large contingent exposure through our ownership of the ECB (http://www.ecb.int/ecb/legal/1001/1010/html/index.en.html for details) which is larger because of Target2 balances. Our capital contributions are at risk and we also have potential exposure to future capital calls.

This is not an area that I know very well and I am trying to learn a bit more if I can.

[Guest tbatst2000]

Yes - I thought the risk was with the entity with which the imbalance is created rather than the funnel as it were.

How do you mean? My understanding, which may be entirely wrong, is that the ECB lends or borrows euros to or from the various central banks. If, say, the Greek central bank went bust owing the ECB 100B EUR, then they'd be bust as they'd have borrowed that 100B from a bunch of other central banks and wouldn't now be able to repay. Do you think that, instead, they broker direct loans between, say, the Bundesbank and the Bank of Greece?

[LuckyOne]

How do you mean? My understanding, which may be entirely wrong, is that the ECB lends or borrows euros to or from the various central banks. If, say, the Greek central bank went bust owing the ECB 100B EUR, then they'd be bust as they'd have borrowed that 100B from a bunch of other central banks and wouldn't now be able to repay. Do you think that, instead, they broker direct loans between, say, the Bundesbank and the Bank of Greece?

That was my understanding too. The ECB are the counterparty to every transaction rather than being an agent / broker with transactions between central banks.

[LuckyOne]

I think the UK has indirect exposure as a shareholder in the ECB. If, as a result of losses under Target2, the ECB has to make an equity call, then the BoE will have to cough. From what I recall though, the non-Eurozone countries are only on the hook for a small fraction of the total so it's probably not a very big potential hit.

As of 2009, the BOE was the second biggest shareholder in the ECB. http://www.ecb.int/ecb/legal/pdf/l_02120090124en00660068.pdf

This proportion dropped during the 2010 capital increase when the non-EZ central banks didn't participate as much as the EZ central banks.

[EvilEdna]

According to this article the ECB is as heavily leveraged as Lehmans in 2007.

[Bloo Loo]

so complicated.

I dont need a target anything to pay my shopkeeper...i hand him the money.

I suppose my hand and his hand are the target 2 equivalents for my wallet and his till.

[Guest tbatst2000]

As of 2009, the BOE was the second biggest shareholder in the ECB. http://www.ecb.int/e...4en00660068.pdf

This proportion dropped during the 2010 capital increase when the non-EZ central banks didn't participate as much as the EZ central banks.

Some random speculation based on that and what I found on Wikipedia (take that one with a pinch of salt): if Greece owes 110B to the ECB and defaults, then the ECB calls on existing shareholders in proportion to their ownership then the UK pays somewhere around 15B. If they call according to current paid up capital though, then the number is more like 100M.

[LuckyOne]

According to this article the ECB is as heavily leveraged as Lehmans in 2007.

It is pretty horrifying isn't it. A €3 trillion balance sheet underpinned by €10 billion in direct capital and €80 billion of indirect / contingent capital.

I think that the BOE owns about 8% of the ECB after the most recent capital raise. Through the BoE's ownership, we have a non-zero exposure to the problem in my opinion.

[EvilEdna]

It is pretty horrifying isn't it. A €3 trillion balance sheet underpinned by €10 billion in direct capital and €80 billion of indirect / contingent capital.

I think that the BOE owns about 8% of the ECB after the most recent capital raise. Through the BoE's ownership, we have a non-zero exposure to the problem in my opinion.

It doesn't look pretty - God knows what rubbish they'll have accepted as collateral for the LTRO programme. All the buck passing during the last few years has locked the unrepayable debt into more and more institutions, first the banks, then sovereigns now the ECB. I find it hard to believe that Greece (let alone Spain, Italy or France) will be allowed to default because of the knock on consequences. Surely, ultimately the ECB will have to print too?

[LuckyOne]

It doesn't look pretty - God knows what rubbish they'll have accepted as collateral for the LTRO programme. All the buck passing during the last few years has locked the unrepayable debt into more and more institutions, first the banks, then sovereigns now the ECB. I find it hard to believe that Greece (let alone Spain, Italy or France) will be allowed to default because of the knock on consequences. Surely, ultimately the ECB will have to print too?

Either the ECB have to print or the Germanic(ish) nations (Germany, Austria, Holland, Finland, Luxembourg) will have to leave (with perhaps Denmark, Sweden and even the UK joining the new currency bloc).

ECB printing may well result in a Germanic(ish) withdrawal anyway.

[andygivenup]

It used to be don't mention the war to the Germans, now it's don't mention the printing press. Scares the sh1t out of um.

[easy2012]

I think the UK has indirect exposure as a shareholder in the ECB. If, as a result of losses under Target2, the ECB has to make an equity call, then the BoE will have to cough. From what I recall though, the non-Eurozone countries are only on the hook for a small fraction of the total so it's probably not a very big potential hit.

Target are accounting entries (but can involved real money) between the National CB in the ECB system. It doesn't affect ECB itself..

In the UK, it will be like surplus/liabilities between clearing banks and ECB is the BoE.

[easy2012]

[[corrected - see links in post below for the correct working of target2]

Edited May 10, 2012 by easy2012

[Bloo Loo]

Put it simply, gigantic problem for Bundesbank. I will put this in an example:

1. Greek people transfer a total of e 500 bn to German banks (say CommerzBank)

2. Greek NCB balance is reduced (to negative probably) and Bundesbank balance is increased by 500bn

3. Commence bank account at Bundesbank is inc by 500bn

4. All the relevant private accounts are credited with a total of 500 bn

Now Greek NB goes, Bundesbank still owes commerz bank 500bn and Commerz bank still owes the customers 500 bn.

It will be fun...

I think my example was better....wallet to hand to hand to till.

in the case of the target2, the hand to hand is carried out before the wallet has coughed up.

If the Greek CB cant pay, then the ECB should say NEIN to the German banks....its your risk...you lap it up.

[easy2012]

[corrected]

Edited May 10, 2012 by easy2012

[LuckyOne]

Put it simply, gigantic problem for Bundesbank. I will put this in an example:

1. Greek people transfer a total of e 500 bn to German banks (say CommerzBank)

2. Greek NCB balance is reduced (to negative probably) and Bundesbank balance is increased by 500bn

3. Commence bank account at Bundesbank is inc by 500bn

4. All the relevant private accounts are credited with a total of 500 bn

Now Greek NB goes, Bundesbank still owes commerz bank 500bn and Commerz bank still owes the customers 500 bn.

It will be fun...

If the ECB were transparent, they would reveal full details with respect to the collateral held (issuer, maturity, carrying value, market value, haircuts, downgrade provisions etc etc) against the Greek NCB's net position including Target2 balances.

I think that the payments system is a big chink in the ECB's armour that lets the market attack at the ECB level rather than at the national level in the PIIGS.

Ironically, the payments system overseen by the ECB is probably "ground zero" when it comes to systemic risk in the EZ.

[easy2012]

If the ECB were transparent, they would reveal full details with respect to the collateral held (issuer, maturity, carrying value, market value, haircuts, downgrade provisions etc etc) against the Greek NCB's net position including Target2 balances.

I think that the payments system is a big chink in the ECB's armour that lets the market attack at the ECB level rather than at the national level in the PIIGS.

Ironically, the payments system overseen by the ECB is probably "ground zero" when it comes to systemic risk in the EZ.

Sorry... found a good article here that explains everything:

http://www.frbatlanta.org/cenfis/pubscf/nftv_1203.cfm

So, TARGET2 (collateralised with haircuts) losses are ECB losses (not just Bundesbank)...So the german are sort of ok.

Edited May 10, 2012 by easy2012

[Bloo Loo]

Sorry... found a good article here that explains everything:

http://www.frbatlant...f/nftv_1203.cfm

So, TARGET2 (collateralised with haircuts) losses are ECB losses (not just Bundesbank)...So the german are sort of ok.

of course, the middle man ( target 2) shouldnt be offering credit to a busted entity.

[LuckyOne]

Sorry... found a good article here that explains everything:

http://www.frbatlanta.org/cenfis/pubscf/nftv_1203.cfm

So, TARGET2 (collateralised with haircuts) losses are ECB losses (not just Bundesbank)...So the german are sort of ok.

Thank you very much for that. A nice explanation that I can mostly understand. The exposure to the National Bank of Greece is the ECB's. From what the article has said, the collateral actually sits with the NBG and not the ECB.

If the ECB realise losses on the NBG's funding / Target2 balance at the ECB, that loss is taken by the remaining shareholders of the ECB on a proportional basis. That means that the BoE are on the hook for a share.

The NBG's funding / Target2 balance at the ECB is 10x the ECB's capital to say nothing of all of the other exposures that the ECB has to Greece.

It does look like an accident waiting to happen in my view.

[zugzwang]

It's all starting to make sense now.