European Central Bank lends a record 529.5 billion euros to banks

The European Central Bank (ECB), in an effort to stimulate the economy, agreed to lend 800 Euro-area banks 529.5 billion euros ($712.2 billion) for three years. These loans will hopefully improve credit conditions within Europe and stabilize the Eurozone economy. This is the second time the ECB has made loans available on these terms. 

that’s a complicated way of saying: Banks in Europe have been reluctant to lend money to governments, businesses and individuals because credit is very tight. The ECB, in an effort to encourage more lending by banks, agreed to loan money at very favorable terms for the borrowers.  (The cost being the average of the ECB benchmark interest rate.) This is currently around one percent. Banks are now free to take that money and deploy it however they want. The goal is that they will re-invest the funds into higher yielding positions.

This is not the first time the ECB has made 3-year loans like this available. In December 2011, the same program was instituted. Banks who borrowed money there re-invested the money into government bonds, especially in Spain and Italy. This increase of demand for government debt significantly reduced the borrowing costs of those countries. The hope now is that banks will continue to invest/loan money in government bonds and also expand lending to businesses in order to fuel research and capital development within the Eurozone.

Is it bad that there was record demand for the program? Yes and no. On the one hand it means banks are still struggling to raise money through conventional methods. Further, there is a concern that banks will become reliant on receiving loans on such favorable terms that they will not be able to successfully operate without them. Conversely, such a large number of banks borrowing large sums of money suggests that banks think they have opportunity to make profits. They would not borrow the money if they did not think they would be able to turn around and lend it out at higher rates. More money will be flowing into the economy.

Will this clean up the mess in Europe? Probably not. This is the ECB, an independent arm of the Eurozone, lending money to banks, who are lending money back to governments and some businesses. If you remove the middle man, the government is essentially lending money to itself. The ECB is taking most of the risk and in exchange they get almost none of the profits. On its face, this seems like a ridiculous way to solve a financial crisis. But the profits on those trades are going into the private sector. And when profits increase, people within the economy begin to feel more confident. And where there is more investor confidence, momentum starts to build. And if there is enough momentum, everything will stabilize, economies will grow, governments will collect enough taxes to pay their bills and everybody is happy. That is what the bankers in the ECB (and also the Fed) are trying to accomplish.