Again the banks flood the market with more debt

Europe's debt crisis prompts central banks to provide dollar liquidity

European and US stocks surge on news that world banks will flood markets – but Lagarde warns of 'dangerous' new phase

the Guardian, 

15 September, 2011

Fears of a deepening of Europe's debt crisis have prompted the world's leading central banks to pump US dollars into the financial system, in a co-ordinated action designed to boost market confidence.

The Bank of England joined the US Federal Reserve, the European Central Bank, the Swiss National Bank and the Bank of Japan on Thursday to announce that they would flood money markets with dollars over the coming months.

The move, on the third anniversary of the collapse of the US investment bank Lehman Brothers, sent shares soaring in banks heavily exposed to debt default by Greece and the other struggling members of the 17-nation eurozone. The euro, which had been falling in recent days, rebounded, rising roughly 1% in European trading on Thursday.

Speaking in Washington, Christine Lagarde, the president of the International Monetary Fund, said: "They [the banks] are getting together and acting together. To me, that is the most important message."

Lagarde warned that more action was needed.

"We have entered into a dangerous phase of the crisis," she said. There is still a path to recovery, Lagarde said, but it is a "narrow" one.

Under the terms of the deal, banks will be able to bid for unlimited amounts of US dollars at fixed interest rates in three separate auctions. The first of these will be on 12 October.

Nick Parsons, head of strategy at National Australia Bank, said the decision to provide unlimited liquidity well into 2012 was a big show of support to the global banking system.

But he added: "If Greece were to default, an announcement that there would be unlimited liquidity available from central banks is one of the things you would want to have in place beforehand."

The move comes as Europe's finance ministers gather in Wroclaw, Poland, for a meeting of the Economic and Financial Affairs Council, known as Ecofin. US Treasury secretary Tim Geithner is set to address the meeting for the first time, and is expected to call for decisive action.

Putting further pressure on Europe's finance ministers, the European Commission cut its growth forecast for the euro area for the rest of they year.

The commission predicted Europe would barely avoid a double-dip recession, and that growth would come to a "virtual standstill" towards the end of the year.

Gus Faucher, director of macroeconomics at Moody's Analytics, said the move to pump dollars into the system would help in the short term, but all eyes were still on the meeting of European finance ministers.

"It's not a cure; it's a temporary palliative," said Faucher. "The big question is: is this enough in the short term to get us to a longer term solution? There is a potential for a really huge financial crisis in Europe. Things are bad now, but they could get a lot worse."

Hedge fund billionaire George Soros said the Euro crisis looked "more intractable" than the 2008 financial crisis. Writing in the New York Review of Books, Soros said it was "imperative to prepare for the possibility of default and defection from the eurozone in the case of Greece, Portugal, and perhaps Ireland."

He said massive political changes were needed in Europe, including the establshment of a European Treasury, " to forestall a possible financial meltdown and another Great Depression."

In London, the FTSE 100 index closed up 110 points at 5337, over 2%. On Wall Street, the Dow Jones index gained even in the face of poor economic figures.