The Bank of England, Federal Reserve and Canadian, European, Japanese and Swiss central banks have launched a coordinated and massively enhanced dollar liquidity swap arrangement amid market turmoil.
The swap line facilities were created in 2013 to allow the six central banks to provide each other with enough of each participating nation’s currency to provide liquidity to participating countries’ commercial banks.
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The agreement comes as confidence in banks tumbles after Silicon Valley Bank was caught cavalierly napping on interest rate hikes that left it holding “safe” bonds that were costing it money and questions mounted about the liquidity of others. US Banks borrowed over $150 billion from the Federal Reserve’s discount window last week, smashing the previous record during the 2008 financial crisis ($112 billion) amid panic at banks.
“The central banks currently offering US dollar operations have agreed to increase the frequency of 7-day maturity operations from weekly to daily” the central banks said in a joint statement on Sunday March 19.
Central banks' liquidity swap: Have some $$$$$$
The agreement comes after Swiss authorities forced UBS to buy rival Credit Suisse to prevent its disorderly collapse – and after US authorities had to step in when a run on tech-favourite Silicon Valley Bank triggered its failure; a collapse rapidly followed by that of Signature Bank, with confidence in others also tumbling.
“The network of swap lines among these central banks is a set of available standing facilities and serves as an important liquidity backstop to ease strains in global funding markets, thereby helping to mitigate the effects of such strains on the supply of credit to households and businesses” the central banks added.
The Fed’s FAQ on the swap line describes it as designed to help tackle “risks to US financial markets caused by financial stresses abroad” (which given the pressure on the Fed for liquidity from US banks may seem skew-eyed) but the last central bank to hit the line was the ECB on March 15; pulling in $469 million.
Nobody has learned a thing since 2008
Whilst the 2008 financial crisis taught most observers that banks that are "too big to fail" pose systemic risks to the economy, they have instead grown larger (UBS’s Credit Suisse acquisition being just the latest evidence for the prosecution) and evidence continues to mount that many including Silicon Valley Bank have been playing hard and fast with the rules. As Bloomberg reports, the Federal Reserve Bank of San Francisco called out “problem after problem” at SVB over a year before it collapsed, pressing the bank’s leaders to “fix serious weaknesses in operations and technology… [and] late last year they flagged a critical problem: The bank needed to improve how it tracked interest-rate risks… an issue at the heart of its abrupt downfall this month.”
Or, as Lucrezia Reichlin, a former director of research at the European Central Bank, is Professor of Economics at the London Business School puts it crisply: "It had used customer deposits to fund investments in a portfolio of US Treasuries that were poised to decline in value when the Fed started tightening its monetary policy a year ago. The problem was neither credit risk nor liquidity risk; rather, it was an obvious form of market risk.
"The Fed’s usual stress tests might have spared supervisors the embarrassment, except that SVB was exempted from this requirement, owing to a 2018 legislative change that increased the threshold for participation from $50 billion in assets to $250 billion. SVB had $209 billion in assets when it failed" she added.
Central bank action to raise interest rates after over a decade of cheap money meanwhile is causing consequences that have yet to fully play out. What has played out for the technology sector of course is a sharp retrenchment by investors and considerable pressure on CEOs – used to having VC money to burn – to push towards profitability or at least trim costs sharply, leaving a glut of well-capitalised but customer-poor startups scrambling to build legitimate business models even as Chief Information Officers move to consolidate vendors.