ECB pushing euro-area banks to lend
Deposits at the ECB by euro-area banks in excess of required reserves have jumped sixfold since the introduction of negative interest rates, while lending within the currency bloc has barely budged. Of the 646 billion euros ($730 billion) that banks added in assets during the period, about 85 percent has ended up as deposits at the central bank. One reason banks are paying to keep money idle is a lack of demand for loans in an economy still recovering from a double-dip recession and a sovereign-debt crisis. Another is that banks saddled with bad loans or low capital levels and those in the midst of restructuring are reluctant to increase lending. Even the ECB's latest offer to pay banks interest on money they borrow from the central bank may not do the trick.
"They're not profitable enough to substantially increase lending, so even the negative rate for lending by the ECB to the banks probably won't help much," said Jan Schildbach, head of research for banking and financial markets at Deutsche Bank AG in Frankfurt. "It's not lack of liquidity or its price that's the problem."
Lending to nonfinancial companies and consumers, excluding mortgages, has been stuck at about 6.8 trillion euros since June 2014, ECB data show, despite the central bank's liquidity programs to encourage more of those loans. Policy makers have looked at those figures when determining how much cheap money to provide lenders. Banks that increase such loans qualify for more funds.
When it went deeper into minus territory on March 10, the ECB said it would use similar criteria to determine if a bank qualifies for negative rates on money it borrows from the central bank. That means the ECB is now willing to pay banks to borrow at the same rate it charges for excess deposits they hold there. And it's willing to do so even if a bank isn't increasing lending, as long as the firm is reducing lending at a slower rate than in the previous 12 months.
"It looks like the ECB is just trying to stop the bleeding," said Silvia Merler, a fellow at Bruegel, an economic research group in Brussels. "They've basically done that with the previous liquidity programs too. They haven't managed to encourage more lending, but at least stopped the erosion that was going on."
Lending within the euro area to nonfinancial firms and consumers, excluding mortgages, had declined by 627 billion euros, or 8.5 percent, from June 2012 through May 2014. While negative rates help European companies and consumers lower borrowing costs, they are also squeezing banks' profit margins. That's because the interest banks pay savers, which track ECB short-term rates, typically can't go negative for fear that retail depositors will withdraw their money and keep it in cash at home. When loan rates keep falling and deposit rates are stuck at zero, the spread between what the bank charges for loans and what it pays for savings continues to shrink.
"One of the reasons for the poor performance of the banks is the crimping of their margins due to negative rates," said Alastair George, investment strategist at Edison Investment Research in London. "If banks aren't healthy enough to make more loans because they can't make money, how can the rates be effective in boosting lending?" Instead of lending at lower spreads to companies or consumers in the euro area, banks have boosted derivatives transactions and investments outside the currency bloc. They've also cut securities holdings as most government bonds have negative returns.
If negative rates persist, banks might have no choice but to start charging interest on retail deposits, said Santiago Carbo-Valverde, a finance professor at Bangor University in the U.K. who has been studying interest-rate margins and banking profitability for two decades.