Reading the Tea Leaves of the Fed’s Liquidity Spigot

There are two interpretations of the Central Bank actions from early this morning, and they not mutually incompatible.

Firstly, AEP in the Telegraph gives one: Fed saves Europe’s banks as ECB stands pat

Roughly: since this is done in the face of paralysis at the EU, it represents an attempt to pressure or outflank the ECB and associated German-bloc eurocrats with regard to supporting the banks. Of course, from the viewpoint of many Europeans, the AngloSaxon world is just too cozy with the banks and willing to give them a pacifier whenever they start whining too loudly.
I have the distinct impression that many in Europe, esp the left, want to support a united Europe but not necessarily the banks, and feel like the incessant call for the ECB to be the lender of last resort coming most loudly from the Anglosphere would enable a scam of a bailout as occurred here in the States.

Secondly, Jesse: Currency Wars: Fed Acts To “Increase the Availability of Dollars Outside the United States”

His view is that since this is in essence a massive currency swap at zero interest to the European banking system, it serves to further dollarize the European economy — liquidity is going to Europe in the form of dollars rather than euros. To some extent this means that European economic actors now have more dollar obligations and their holdings of US paper subject them to future Fed policy actions. This is what he and several commentators from the Continent term “Currency War”, implying that the process will serve to keep the euro subordinate as a competitor reserve currency. The fact that the effect today was to strengthen the euro, making German goods more expensive on world markets, may be a feature, not a bug of the program.

It is important to note that there may be a very different view of the situation in Berlin which is that this represents a moment of transition and opportunity for greater integration; the fiscal discipline they are demanding of Club Med is in one sense no different than the balanced budget laws in the individual states of the US. Berlin is right to worry that ECB monetization without fiscal discipline at the state level is a path to serious inflation. Of course, to offset the deflationary impact of state and local austerity (as in the US) a European-wide treasury with taxation authority and bond issuance would allow them to mirror the situation in the US. I suspect that most, including the so-called “hard liners” in Germany would not be opposed to that, even though that would mean some taxation of the German citizenry would pay for infrastructure projects in Greece or Italy. In that situation, they might even support EZ-wide debt monetization in the face of some kind of economic force majeure of the kind currently underway. Such a German position is never discussed or mentioned in the things I read — and I wonder if this represents ideological blinders or a true read of the German position.

The US position may be that there is not any time left for that slow process and that emergency measures are required instantly.

All sides may be right in some sense. AEP suggests that last night’s failure of an EU agreement was threatening the kind of run on the entire eurozone this morning that was reported to have been happening to the US over 6 hours in the fall of 2008, when losses in money market funds forced the Fed to guarantee trillions outside of the FDIC system.

Certainly this morning’s action suggests that the authorities were worried about a serious financial catastrophe in the next few days.

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