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In essence, the US central bank, or Federal Reserve, agreed to provide cheaper dollar funding to the European Central Bank—which can then provide cheaper dollar loans to cash-strapped European banks. (For a fuller explanation of how the ECB borrows from the Fed, click here.)
The participation of the central banks of Canada, England, Japan and Switzerland is more of an effort to show that all the central bankers are working together than any expectation that there will be lots of dollar borrowings under their facility.
The goal is to ease the credit crunch in Europe. Lots of European banks make dollar denominated loans, in part because US interest rates are so low. The banks do not usually finance these loans in the way you might think—by lending out the deposits of their retail customers. Instead, the loans are financed by short-term borrowings from other financial institutions.
When European banks make a dollar loan or purchase a dollar denominated asset, they typically borrow the dollars on the what’s called “international wholesale deposit market”—which is a fancy word for borrowing from other banks that have dollars. Alternatively, they can borrow in their native currency and then use foreign exchange swaps to hedge the currency risk.
Now that Europe is in the throes of a debt crisis, it has become much more difficult if not impossible for many European banks to borrow dollars in the wholesale markets. To make dollar loans, then, they have to turn to the European Central Bank. What’s more, the cost of the foreign exchange swaps has increased, making it more expensive to make dollar loans based on euro assets.
Normally, central banks only make loans in their domestic currencies. But in times of international stress—the credit crisis of 2008, for instance—central banks around the world set up swap lines that allow them to borrow from each other, creating the ability for them to make loans in other currencies.
In short, European banks were finding it too expensive to make dollar loans, which hurt their ability to lend dollars and encouraged them to sell euros. This depressed the value of the euro and restricted credit in Europe. The ECB arranged to borrow dollars more cheaply from the Fed, so it could ease this market.
So is this some giant giveaway to profligate Europeans of US taxpayer money?
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[My understanding of this is that once again, this has not solved the problem, but only kicked the can down the road a bit farther. Does this have anything to do with what David Wilcock's insiders are saying, which according to David is that they'd like to hold the collapse off until the beginning of the year. Whatever the truth may be, you can be sure we are not being told. ~J]
- Fed, other central banks act to ease strains in world markets (usatoday.com)
- World’s central banks act to ease market strains (cbsnews.com)