Markets surge after central banks announce move to ease global credit crunch
The world’s major central banks unveiled a new strategy Wednesday to keep Europe’s debt crisis from choking off global lending, a dramatic step that comes as the availability of credit for businesses and consumers has shown signs of freezing up.
In an action that recalls the depths of the U.S. financial crisis three years ago, when global central bankers took coordinated steps to stem a worldwide panic, the U.S. Federal Reserve and five of its sister institutions agreed to supply one another with unlimited amounts of each country’s money at a reduced cost. Most immediately, this initiative means the European Central Bank can pump dollars into banks in the troubled euro zone at low interest rates.
The announcement, coupled with a separate move by China’s central bank to loosen bank lending, sent stocks soaring on Wall Street and in other financial capitals. The Dow Jones industrial average rose 490 points, or 4.2 percent, the strongest gain in more than two years.
The Fed and the ECB, along with central banks in Britain, Canada, Japan and Switzerland, were responding to the difficulties European banks face in raising the money they need to conduct routine business. This challenge has become acute in the past two weeks.
But the policy does little to address thefundamental problems in Europe: a loss of confidence among global investors in the ability of Italy, Spain and other nations to repay their debts and, more broadly, the threat that this crisis could cause the 17-country euro currency zone to break apart.
Investors have grown wary of lending money to European banks, fearing that these firms could face vast losses on their holdings of bonds issued by cash-short European governments. Without access to dollars, the banks could start canceling loans — and there are signs they have already begun doing so. That would further undermine Europe’s already-weak economy, making the debt and banking crises that much worse.
“Lower lending to small businesses in France — and across Europe — is hitting at the ability to bring down unemployment rates and stimulate growth,” said Olivier Pastre, a professor of economics at the University of Paris VIII.
The world’s most powerful central banks are stepping in and using their unlimited ability to print money and lend it across national borders to try to arrest that dangerous cycle. The central banks are using what are called “swap lines” to exchange their respective currencies. While this arrangement has been used intermittently since 2007, the new policy makes dollars available more cheaply than before.
Dollars are crucial for business in many countries, particularly in Europe, where banks do extensive lending in dollars even though their home countries primarily use the euro or other currencies. But unlike U.S. banks, which have constant access to the Fed and its unlimited capacity to supply dollars, foreign banks must rely on private markets to supply them the dollars they need.
In a climate of fear, when the solvency of those banks is in question, dollars become hard to come by. That happened in 2007 and 2008, when the Fed, the ECB and other central banks first established the swap lines.