Credit System Slowly Unfreezing
Central banks around the world have coordinated their monetary policy in an effort to unfreeze a credit system that has global economies reeling. In a sign that their efforts may be starting to pay off, interest rates for interbank lending have fallen recently and money market activity has started up once again.
Interbank rates have tumbled worldwide as central banks slashed interest rates and governments pledged as much as $3 trillion of emergency funds to kickstart lending. Australia’s central bank cut its benchmark rate by a bigger-than-expected 75 basis points to 5.25 percent today, joining policy makers in China, Hong Kong, India, Japan and the U.S. in reducing borrowing costs in the past week.
The European Central Bank and Bank of England will cut their key rates by 50 basis points in two days, according to Bloomberg surveys. Three-month dollar Libor also slid for a 17th consecutive day today, according to the BBA. The rate was at 4.82 percent on Oct. 10, the day before the streak began.
The global effort to provide cheap capital to the banking system may be to late to avoid the worst global recession in decades. The U.S. economy shrunk in the third quarter and the prospects for the next few quarters looks equally as bleak.
It may be some time before credit activity returns to normal, the collapse of structured finance has dealt a significant blow to the banking system. While bank have begun lending to each other once again, they are still wary of risk and it will still take time for business and consumer lending to return back to normal levels.
The big reason why there isn’t that much credit around is because financial institution are frantically trying to de-leverage themselves. It’s financial leverage that has provided the means to the explosion to credit in the past decade.
So now central banks have to step in and provide a larger initial capital base for the smaller leverage ratios to work with in creating credit. The more financial institutions de-leverage, the more central banks will have to pump in to make up for the fall in credit.
All that extra money creates inflationary pressure and but if the banking system doesn’t start to improve soon, could we possibly be looking at interest rates at 0% in the near future. Some how the government needs to get banks to start taking risks once again or we could all be in for a long bumpy ride.
