20140707-NATIXIS-Impact_of_TLTRO_16页_734kb

Summary of FLASH MARKETS: Impact of TLTRO

Core Content

The document discusses the impact of the European Central Bank's (ECB) Targeted Long Term Refinancing Operations (TLTRO) on liquidity in the Eurozone and the broader implications for banks and financial markets. It outlines the potential for liquidity injection, the conditions under which banks may qualify for TLTRO, and the expected effects on interest rates and credit spreads.

Main Points

1. Liquidity Phases and TLTRO Impact

• Liquidity will go through three phases:
  • Increase in excess liquidity with the first two TLTRO (September and December 2014).
  • Decrease due to VLTRO repayments in January and February 2015.
  • Possible increase again once quarterly TLTRO begin in March 2015.
• The total liquidity injection from the eight TLTRO will depend on bank lending and borrowing allowance usage.
• The ECB estimates a potential total injection of up to EUR 1,000bn, but this is considered a maximum potential.

2. TLTRO Borrowing Allowances

• TLTRO borrowing allowances are based on net lending and are indexed to new loan production.
• Core banks (Germany, France, etc.) may only use their borrowing allowances to roll existing VLTRO balances.
• Peripheral banks (Italy, Spain, etc.) may have more incentive to use their borrowing allowances to stimulate lending, given the relatively small amounts of VLTRO repayments compared to their potential TLTRO borrowing.

3. VLTRO Repayments and TLTRO Borrowing

• VLTRO repayments (EUR 404bn) will initially offset TLTRO liquidity injections.
• If banks repay VLTRO early, it could lead to a net decrease in liquidity.
• The net injection of liquidity depends on:
  • The extent of early VLTRO repayments.
  • The results of TLTRO staged between March 2015 and June 2016.
• Based on two assumptions, TLTRO could result in a net injection of between EUR 550bn and EUR 685bn.

4. Bank Behavior and TLTRO Participation

• Banks may be reluctant to appear more dependent on ECB funding, but there is a risk of stigma for those not participating in TLTRO.
• The ECB will not impose conditions on banks, meaning carry trades are not barred, provided they do not prevent lending growth.
• Non-core banks may use their full borrowing entitlement, while core banks may not, due to reputational and regulatory concerns.

5. TLTRO and Financial Market Effects

• TLTRO is expected to converge intra-EMU spreads and flatten interbank and sovereign curves.
• Italian banks are likely to be the main beneficiaries in equity markets.
• The ECB's non-sterilized ABS programme and autonomous liquidity factors will also influence the liquidity dynamics.

Key Information

• TLTRO is designed to replace VLTRO, but the impact on liquidity is limited initially due to the offsetting effect of VLTRO repayments.
• The pace of deleveraging is crucial in determining the net injection of liquidity.
• Borrowing allowances for TLTRO are calculated based on net lending during the reference period (April 2013 to April 2014).
• The impact on bank credit spreads will be positive, especially for peripheral banks, due to the ECB's support.
• The Bank of England's Funding for Lending Scheme (FLS) is mentioned as a precedent, with similar mechanisms not significantly boosting lending beyond mortgages.

Summary Table

Conclusion

The TLTRO mechanism is expected to have a limited initial impact on liquidity due to its use in rolling VLTRO balances. The net injection of liquidity will depend on bank lending behavior and the pace of deleveraging. While TLTRO could increase excess liquidity in the Eurozone, it will require a slowdown in deleveraging. The ECB’s strategy is aimed at converging intra-EMU spreads and flattening interbank and sovereign curves, with Italian and Spanish banks likely to benefit the most.