ECB approves collateral eligibility criteria of seven Eurosystem central banks

The European Central Bank (ECB) on February 9 approved proposals from seven Eurosystem central banks to loosen further the criteria for eligible collateral in credit operations.

The Central Bank of Ireland, Bank of Spain, Banque de France, Bank of Italy, Central Bank of Cyprus, National Bank of Austria and the Bank of Portugal are due to release details on the specific national criteria and risk control measures for the temporary acceptance of additional credit claims as collateral.

The Bank of Spain is the only central bank to so far issue the details of the assets they will accept as collateral. It said performing corporate and public sector entity credit claims, other than mortgages, that have a probability of default equal to or lower than 0.4%, would be eligible as collateral – although it said this would later be modified to credit claims equal to or lower than 1%. The central bank said credit claims not governed by, and structured, in accordance with Spanish law, may also be accepted at a later stage.

This builds on the Governing Council's decision in December to increase collateral availability by allowing national central banks to accept additional performing credit claims as collateral. On December 8, the ECB expanded the maturity of its longer-term refinancing operations (LTROs) from 12 to 36 months in a bid to ease credit conditions in the eurozone. The central bank also reduced the minimum rating threshold for asset-backed securities to 'A' and allowed national central banks to accept as collateral additional performing credit claims that satisfy specific eligibility criteria.

Mario Draghi, president of the ECB, said the easing of the collateral rules would provide banks with greater flexibility in the use of securities they hold as collateral. Speaking at the Governing Council press conference, following its decision to leave interest rates unchanged, Draghi said that while it was not yet possible to draw firm conclusions on the impact of the first three-year LTRO on bank funding, as it was still unfolding, indicators since December suggested bank lending conditions tightened further in several eurozone countries. According to the ECB's bank lending survey published on February 1, credit conditions for non-financial corporations and households tightened significantly in the fourth quarter of 2011, with banks expecting more stringent lending conditions ahead. Draghi said remaining tensions in eurozone sovereign debt markets and their impact on credit conditions continued to dampen the underlying growth momentum in the eurozone.

Nick Stamenkovic, a macro strategist at RIA Capital Markets, a brokerage based in Edinburgh, says the measures were simply adding to a string of relatively loose eligible collateral, and that the expansion collateral criteria would, at most, have a modest impact on markets. However, Chris Whelan, a senior broker at Marex Financial, a brokerage in London, says the ECB is preparing to cushion the banking sector in the event of an organised Greece default. Whelan says depending on the eligibility criteria, banks may be able to shift vast amounts of bad assets from their balance sheets, including commercial loans, to the ECB through their respective national central banks.

The announcement from the ECB comes as politicians in Greece reached a deal on additional austerity measures, paving the way for the next disbursement of bailout funds from the International Monetary Fund and European Union. It will also provide scope for an agreement with private sector Greek bondholders over a haircut on Greek debt. Draghi confirmed the news at the press conference in Frankfurt, saying he had received a phone call from Greece's prime minister, Lucas Papademos, that an agreement had been reached and endorsed by the major parties. However, Draghi refused to be drawn by questions from journalists about whether the ECB would take a hit on its holding of Greek debt. There have been suggestions that official sector holders may need to take a haircut on holdings of Greek debt to achieve the targeted reduction in debt.