ECB member warns against “too generous” liquidity

FRANKFURT, Germany — A key member of the European Central Bank has warned against being “too generous” with credit to private-sector banks despite the apparent success of massive emergency ECB credit in helping ease Europe’s debt crisis.

Jens Weidmann, who is part of the ECB governing council and heads Germany’s national central bank, said the ECB does have the job of making sure banks have adequate funding to get them through the eurozone debt crisis.

But he cautioned in a speech to be delivered in Duesseldorf on Wednesday that excessive liquidity could increase risk.

“It is also true that new business possibilities may be opened up for banks through too-generous provision of liquidity, which can mean higher risks for the banks and also risks to stability,” he said according to the text of the speech.

The ECB in December provided a massive $644 billion in cheap 3-year emergency loans to banks against collateral — a step that has helped ease the crisis for now. The ECB has another round of low-interest loans set for allotment on Feb. 29. Analysts say the amount might exceed that from the first one.

Banks appear to have used at least some of that money to buy government bonds at higher interest yields, such as those of countries like Italy and Spain. That has helped ease borrowing rates for those indebted governments and lowered fears of default.

The emergency loans have thus proved to be a legal way for the ECB to help bail out struggling governments, something it is forbidden by the EU treaty to do directly. The treaty bars the ECB from buying bonds directly from governments — the so-called primary market — and it has made only limited bond purchases from other investors in the secondary market.

ECB President Mario Draghi has said the emergency loans to banks have helped prevent a serious credit crunch.

Weidmann has been a fierce opponent of stepping up the bond purchases, saying it would cross the legal line because the central bank would be financing national government budgets in violation of the treaty. That stance is a popular one among economists, politicians and many members of the public in Germany, where the Bundesbank’s strict approach to monetary policy in the years before the euro was introduced became part of the country’s financial culture.

Analysts predict that banks will scoop up another large helping of cheap credit at the next ECB offering in February.

Buying up higher-yielding government debt could be good business for banks, because they’re currently paying only 1 percent on the money from the ECB. They could earn money that way to thicken their financial cushions against potential losses from the crisis. Buying government bonds, however, would run counter to efforts to get banks to lower their risky exposures to debt issued by governments that might go bust.

Uncertainty in Europe’s crisis has been intensified by the fact that so many banks hold huge amounts of government bonds. A government debt default could wipe out banks, while bank failures could mean governments having to pay for expensive bailouts, and in turn worsening their finances.