Apparently there’s now a free lunch.
The Reserve Bank’s cost of funds is 25 basis points under the cash rate, or 7 per cent, and in the past two days it has lent $1.1 billion to the banks at between 7.45 and 7.99 per cent on the security of residential mortgage backed securities (RMBS) discounted by a 10 per cent haircut.
The banks, in turn, get to lend that money at up to 200 points over the swap rate, or 9.5 per cent.
The RBA makes a profit on the deal and gets very good security at a discount; the banks make a profit because having increased their lending rates by more than the official cash rate, their spreads have widened enough for it to be worth going to the government pawnbroker for cash. As a result the RBA now holds $2.1 billion worth of RMBS on which it has lent $1.9 billion.
The RBA’s sudden increase in RMBS repurchasing is not happening, you understand, because the Australian banks are in trouble and can’t finance their loan books – it’s just a good deal for all and helps provide a bit of extra liquidity.
Except that this is so unusual, and is so at odds with the RBA’s stance of tightening monetary policy to combat inflation, that it either reflects a “locked up” residential mortgage market, as the treasurer of one investment bank suggested, or part of a coordinated global action by all central banks to flood the system with liquidity to restart the banking engine.
Indeed last night the Bank of England announced a similar, but much larger, special liquidity scheme, in which it will swap any amount of RMBS for government bonds.
Governor Mervyn King said “discussions with the banks” indicated that initial use of the scheme would be £50 billion ($A105 billion), but the Chancellor of the Exchequer, Alistair Darling, later came out and said it could be more than that, and The Times suggested it could go as high as £100 billion.
Financial Times columnist Willem Buiter won the “prediction auction” with a bid of £250 billion, which he says the Bank of England will have to inject before victory can plausibly be declared.
The UK banks are in far greater non-trouble than Australian banks; in fact the UK mortgage market is in the process of collapse. House prices are falling steeply and the wholesale, interbank funding market is paralysed.
In the US the Federal Reserve Board is still shovelling liquidity out to the banks under various swap and repo schemes that are also, like the new UK scheme, unlimited.
Basically central banks are underpinning the western world’s banking system at present and ensuring that loans are continuing to be advanced and a recession-inducing credit crunch does not result from the banks’ sudden, shocking, discovery of counter-party risk.
In normal circumstances, pawning RMBS like this would be both inflationary and morally hazardous (bailing banks out of their mistakes) but these are not normal times.
It is both a relief and scary that the central banks are doing it, and that even the Reserve Bank of Australia is repurchasing RMBS for 12 months. It confirms that the system is broken – and will be for 18 months according to CBA chief Ralph Norris – but it also confirms that the central banks are prepared to do whatever it takes to deal with the problem.
In Australia the RBA’s repurchasing over the past few days also surely marks a clear turning point of monetary policy.
This has been assumed from its speeches and minutes in the past week or two, with forecasters now generally slipping an early 2009 rate cut into their models – why would the RBA start giving cash to the banks for as little as 20 basis points above cash for 12 months if the cash rate wasn’t coming down?
The Reserve Bank and the cost of funds…
xox
It isn’t hard to understand. The banks borrow from the RBA at n%, and loan it to their customers at, say, (n+2)% – they pocket the 2% for their shareholders.
( goes off singing “Money for nothing …”)
Why? Because they are immoral lying scumbag bastards is why. The sooner the sheeple wake up, march down to their local banks and start pulling their money out and hiding it under matresses at home or investing in CHF, the better for everyone because it is no seriously clear just how much trouble Aussie banks are in. The hanky panky that the banks are playing now has just gone too damn far and no-one seems to upset! Of course, bank runs as an expression of no-confidence and self-preservation won’t happen. Eveyone will just sit around like sheeple…er…frogs in boiling water as the fraudsters (aka the RBA and their banker maties) slowly turn the heat up. FFS, these bastards should just be allowed to damnwell DIE. How else are they going to learn that their preditory lending games are not welcome in this country??? “Too big to fail” my arse.
Oh, just as an aside, here is a question that I would like to throw out into the aether in the vain hope of an answer. Is the RBA now collecting mortgage repayments? I mean presumably these RMBSs have real people in real houses paying real mortgages behind them. So do these people now pay off their loan to the RBA rather than whoever originated their loan? How the hell does that work? Or do the banks get to have their cake and eat it too? ie are they still getting payments from mortgage holders AFTER they swap a security at the RBA feeding trough? I’d like to see a detailed article about the exact mechanics of these swaps. Quite frankly, if any of this is now taxpayer subsidized, then taxpayers should be allowed to see EXACTLY which banks are swapping RMBSs and to know exactly how every detail of these swaps work. Last time I checked this was supposedly a democracy. Or have we turned into some sort of fascist corporatist regime in which banks now govern us?