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Italian and Greek Banks on Thin Ice as ECB’s Massive €500 Billion Loan Repayment Looms

by Rahil M
0 comment

The European Central Bank (ECB) is set to challenge the resilience of the European banking industry by requiring lenders to repay approximately €500 billion in cheap pandemic-era loans in a single payment. While the significant excess liquidity in the financial system is expected to mitigate the overall impact of the repayment, concerns remain regarding the strain it may put on individual banks and countries. Smaller Italian and Greek lenders are particularly vulnerable in this scenario.

Challenges Facing Italian Banks

Italian banks face significant challenges as they grapple with the repayment of their outstanding borrowing under the ECB’s Targeted Longer-Term Refinancing Operations (TLTRO) program. The amount of debt owed exceeds the excess cash reserves held by these banks at the ECB, necessitating alternative sources of funding. Analysts estimate that Italian banks may need to raise approximately €35 billion in 2023, with an additional €75 billion required for future TLTRO loan repayments.

The Concerns for Greek Banks

Greek banks find themselves in a similar predicament, with their excess reserves nearly equal to their ECB obligations. As a result, Greek lenders may face challenges in meeting the repayment requirements of the TLTRO loans. The potential strain on Greek banks adds to the overall concern about the stability of the European banking industry.

On June 28, €476.8 billion of TLTRO loans are set to mature, potentially affecting specific firms in the countries like Germany and France as well. Economists say some banks in these countries may have borrowed more than their reserves at the ECB. Reinhard Cluse, an economist at UBS Group AG, highlights that while the situation is more transparent in Italy and Greece, there may still be banks in other countries facing similar challenges.

The ECB’s decision to allow the TLTRO loans to expire aims to reduce its inflated balance sheet, as the facility has effectively supported banks through the challenges of the Covid-19 pandemic. However, ECB officials express concerns about the potential knock-on effect of higher borrowing costs on banks with limited access to money markets.

Andrea Enria, the ECB’s banking supervisor, acknowledged last month that some firms have a “material reliance” on TLTROs.

Alternative Funding Options and Challenges

While alternative funding options are available, such as repo market and bond markets, banks have increasingly relied on excess liquidity in recent years. The current trend is shifting towards longer-term financing through repo agreements. This suggests that smaller European lenders are preparing contingency plans for a post-TLTRO environment. Italian banks may find lenders in the repo markets willing to provide liquidity due to the elevated levels of excess liquidity. However, they may need to offer incentives to attract funding. UniCredit strategists anticipate Italian repo rates rising towards 5 to 10 basis points above the ECB’s deposit rate.

ECB’s Response and Future Outlook

While some experts speculate that the ECB may introduce new measures to support struggling banks, such as offering fresh longer-term funding, the general consensus is less optimistic. The ECB’s ability to provide further monetary easing is constrained by the considerable amount of excess liquidity already in the system.

ECB President Christine Lagarde has emphasized the availability of standard facilities such as the Main Refinancing Operations (MRO) and Longer-Term Refinancing Operations (LTRO). However, using these facilities would lead to a drag on profits for smaller lenders, as the interest rates on these operations are 50 basis points above the ECB’s deposit rate.

Despite the challenges and uncertainties, some experts do not rule out the possibility of the ECB stepping in to support struggling banks. The provision of fresh liquidity, albeit contradictory to the fight against inflation, could be an option if the ECB prioritizes risk management. The ECB faces the delicate task of balancing the reduction of its balance sheet with the need to support struggling banks. The future outlook remains uncertain, with potential consequences for the stability of the European banking industry.

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