The European Central Bank is looking to lend out more of its huge pile of government debt to avert a freeze in the 5.5 trillion euro (US$5.8 trillion) short-term funding market that underpins the financial system, Reuters reports.
The ECB has bought more than one trillion euros of eurozone government bonds in a bid to shore up economic growth and inflation in the eurozone.
For the most part, the bank is holding these bonds.
By doing so, it has taken away the key ingredient for repurchase agreements, or repos, whereby financial firms lend to each other against collateral, typically high-rated government bonds such as Germany’s.
Repo is used by investment funds to finance trading and is regarded by the ECB as a key avenue to transmit its own monetary stimulus to the economy.
A freeze in repo activity risks undoing some of the ECB’s stimulus by hampering lending between financial companies and leaving bond markets vulnerable to sharp sell-offs.
To avert this, the ECB wants to make it easier for banks to borrow the bonds that it has bought so that they can be used as collateral for repo loans, the sources said.
Possible changes include reducing charges for firms which fail to return on time the bonds they have borrowed, accepting new types of collateral and extending the duration of loans, according to Reuters.
“If liquidity dries up there are more fails and banks are more cautious when it comes to making the market,” one of the sources said.
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