Central banks move to stabilize financial system
Wednesday, November 30, 2011
FRANKFURT, Germany (AP) — The central banks of the wealthiest countries, trying to prevent a debt crisis in Europe from exploding into a global panic, swept in Wednesday to shore up the world financial system by making it easier for banks to borrow American dollars.
Stock markets around the world roared their approval. The Dow Jones industrial average rose almost 500 points, its best day in two and a half years. Stocks climbed 5 percent in Germany and more than 4 percent in France.
Central banks will make it cheaper for commercial banks in their countries to borrow dollars, the dominant currency of trade. It was the most extraordinary coordinated effort by the central banks since they cut interest rates together in October 2008, at the depths of the financial crisis.
But while it should ease borrowing for banks, it does little to solve the underlying problem of mountains of government debt in Europe, leaving markets still waiting for a permanent fix. European leaders gather next week for a summit on the debt crisis.
The European Central Bank, which has been reluctant to intervene to stop the growing crisis on its own continent, was joined in the decision by the Federal Reserve, the Bank of England and the central banks of Canada, Japan and Switzerland.
“The purpose of these actions is to ease strains in financial markets and thereby mitigate the effects of such strains on the supply of credit to households and businesses and so help foster economic activity,” the central banks said in a joint statement.
China, which has the largest economy in the world after the European Union and the United States, reduced the amount of money its banks are required to hold in reserve, another attempt to free up cash for lending.
The display of worldwide coordination was meant to restore confidence in the global financial system and to demonstrate that central banks will do what they can to prevent a repeat of 2008.
That fall, fear gripped the financial system after the collapse of Lehman Brothers, a storied American investment house. Banks around the world severely restricted lending to each other. The global credit freeze panicked investors and triggered a crash in stock markets.
In October 2008, the ECB, the Fed and other central banks cut interest rates together. That action, like Wednesday’s, was a signal from the central banks to the financial markets that they would be players, not spectators.
This year, investors have been nervously watching Europe to see whether they should take the same approach and dump stocks. World stock markets have been unusually volatile since summer.
The European crisis, which six months ago seemed focused on the relatively small economy of Greece, now threatens the existence of the euro, the common currency used by 17 countries in Europe.
There have also been signs, particularly in Europe, that it is becoming more difficult to borrow money, especially as U.S. money market funds lend less money to banks in the euro nations because of perceived risk from the debt crisis.
European banks cut business loans by 16 percent in the third quarter. And no one knows how much European banks will lose on their massive holdings of bonds of heavily indebted countries. Until the damage is clear, banks are reluctant to lend.
Banks are also being pressed by European governments to increase their buffers against possible losses. That helps stabilize the banking system but reduces the amount of money available to lend to businesses.
“European banks are having trouble borrowing in general, including in dollars,” said Joseph Gagnon, a former Fed official and a senior fellow at the Peterson Institute for International Economics. “The Fed did the Europeans a favor.”
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