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Is Eurozone at Risk of turning into the Roublezone?

Jenny Yu-Chun Liu

Judy Tsai-

Yeh Wu

Hajer Ben

Mariem

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Agenda

• Introduction to Roublezone - History, Structure, Failure and Reasons

• Introduction of Eurozone - Principles, Current Situation (ELA, collateral policy change...), What's the Concern (elaborate the similarity to Roublezone)

• Conclusion - Possible solutions provided from the article

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A single and centrally regulated interest rate and collateral policy• Valuation of illiquid

collaterals• Terms and conditions for

borrowing• Open market operation

Decentralized implementation

by National Central Banks

(NCBs)

Sharing profit and loss from monetary policy operations between all Euroarea NCBs• Amount in proportion to

their captial share in European Central Bank (ECB)

Eurozone - Principles

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Eurozone - Status Quo I

Emergency Liquidity Assistance (ELA)

• On the behalf of NCBs→differs from countries to countries• Resort to failing to fund from Eurosystem• Decrease of credit worthiness or unqualified collaterals

• Constraints• ECB Governing Council (GC)• Total size - Approve or exercise veto rights• Terms and conditions→ irregular terms• Exposure• Liabilities of ELA facilities belong to Eurosystem (Euro-based debt)• Exposures belong to respective NCBs, which are indemnified by adequate loss absorption capacity

from countries• e.g Germany and Belgium in 2008

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Loss Pooling and Sharing• Profits and losses: ECB & NCBs when implementing common

monetary, credit and liquidity policies• Share and voting weights based on the proportion of paid-in

capital• Non-Eurozone countries are involves (30%)• Germany→France→Italy→Spain→Belgium • Exceptions: Decisions from GC, one-person-one-vote

• e.g. Specific losses from monetary policy of European System of Central Banks (ESCB)

• Though GC could leverage veto rights against these risky activities…hardly work...

When NCBs perform something more than asked by ESCB…→ NCBs take all responsibilities and liabilities• e.g. NCBs create ELAs and act for the country by risking their balance

sheet

Eurozone - Status Quo II

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Eurozone - Collateral

“Specific national criteria and risk control for temporary acceptance of additional credit claims as collateral in Eurosystem credit operations…”

For NCBs of Ireland, Spain, France, Italy, Cyprus, Austria and Portugal, they have different set of regulations regarding collaterals

Eurozone used to conduct in such way

New collateral policies→additional collaterals of 600-700 billion euros• Associated valuation haircuts: ⅔• Total collateral pool grows by 200 billions euros

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Eurozone - Collateral Problems

• Only 7 countries involved• Hard Eurozone vs. Soft Eurozone?

Relaxation of collateral requirements

• Reemergence of NATIONAL monetary, credit and liquidity policies?

Additional claims aren't covered by loss pooling policy

• ECB has no control over the size of the of the collateral operation

No uniform and central limits on amount of extra, low-qualified

collaterals (by NCBs)

Lower-cost capital source: no need to get approval of GC, at 3-

years LTRO (fixed)

• Insolvent governments have no loss pooling → not effective at all

No loss pooling as the limits of low-qualified collateral?

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Conclusion : Roublezonefication ?

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A feasible monetary union is that:

Size and composition of the assets and liabilities of

the central bank are centrally determined.

All losses and profits incurred or earned as part of the implementation of the common MCL policy are pooled and shared.

Terms and conditions for credit extended, both by

the ECB and by the NCBs, are centrally determined

and applied uniformly across all counterparties.

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However, …• ELAs undermined the principle that the same terms and conditions

for credit should be enforced throughout the Eurozone.• Losses incurred associated with the operation of the ELA facilities

are pooled and shared by the rest of the Eurosystem.• ELAs allowed the non-uniform application of collateral standards in

ELAs and Eurosystem’s operations. ➔ hard to effectively monitor the terms and conditions of credits ➔ lose central control, through the combination of a selective

relaxation of collateral standards (for the soft Eurozone)

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Hard Eurozone v.s. Soft Eurozone

Accelerated balance sheet growth of the NCBs in the soft Eurozone runs the risk of alienating NCBs and voters in the hard Eurozone.

NCBs from the hard Eurozone try to protect themselves by demanding an end to loss sharing.

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Possible Solutions

Force every NCB to establish one ELA, with uniform standards and criteria

Implement standardization of collateral requirements for all NCBs

Ensure all profits and losses incurred are fully pooled and shared

Prohibit NCBs from performing activities irrelevant to common monetary, credit, and liquidity policy of the ECB

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Evaluation

Although all points make sense in terms of analogizing Eurozone to Rouble zone… we would like to still propose the other point of view of the issue.

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Difference of historic background

Timing• Dissolution of Soviet Union vs. 6-years planning before issuance

Purpose• Try to control inflation rate vs. Provide a common currency throughout Europe (inter-

country trading)

Country composition• Previous colonies (centrally ruled) vs. Independent countries (mature regimes)• Segmented functions vs. Complete industrial structure• Production factors: less vs. more consolidated economic ties between countries →

Eurozone functions more like a economy vs. fragmented production factors in Rouble zone

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Difference of markets and environments

Transaction scale• Rouble: less globalized, less flow of funds• Euro: more interactions between big economies, huge flow of

funds

Stability• GDP: Eurozone’s GDP ranks 1st in the world.• Inflation rate:

• Russia:27%(Feb.)→7%(July)→25~30%(Nov.~Dec.)• Eurozone: -0.2%~0.8% (2014)

• -1%~4% (2004~2014)

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Difference of solutions to crisis

International funding:• Rouble: less connected to world market… no outside funding • Euro: better connection with world market… if it failed, the

world economy would be heavily affected → international fundings

Internal monetary policy• Rouble: unlimited printing currency• Euro: open market operation… avoid printing currency

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Discussion

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What do you think about

Eurozone being Roublezone?

What would be the

solution you propose?

Do you think integrated banking

system is good?