Madrid: European banks need to strengthen their balance sheets, European Central Bank chief Jean-Claude Trichet was quoted on Tuesday as saying, amid growing fears about a bank lending freeze.
Bank of China’s halt on foreign exchange swaps with several European banks, as well as the ECB’s money market operations, were the latest signs that debt and economic woes are threatening to spread to the financial sector.
In an interview with Spanish business daily Expansion published on Tuesday, Trichet said the situation of Spanish banks had “improved considerably, but one should remain permanently alert”.
“The European banking sector has to reinforce its balance sheet and improve its resilience,” Trichet said, reiterating comments he has made regularly on the banking sector.
“Every month the governing council of the ECB calls upon all the banks in Europe to do all that is necessary to reinforce their balance sheets, to retain earnings, to be cautious and moderate as regards remuneration and to have recourse to a public backstop, where necessary,” he added.
Central banks around the world announced last week they would work together to offer extra loans in US dollars to banks, a move designed to prevent money markets from freezing up in the wake of Europe’s sovereign debt crisis.
Trichet said the move “has been well understood by the observers and illustrates the very close cooperation which exists, in particular between the Federal Reserve System and the ECB.”
International Monetary Fund (IMF) chief Christine Lagarde sparked fierce criticism from bank executives with a call recently for Europe to recapitalise its banks.
Bank of France governor Christian Noyer, who sits with Trichet on the ECB’s governing council, has said French banks had no liquidity or solvency problems.
European banks are being squeezed not only by the euro crisis but also by tougher regulations and looming capital requirements under the Basel III regime.
Rate Cut In Sight
Spain is struggling to balance anaemic growth with austerity measures. It has introduced new labour laws which make it easier to hire and fire workers and restrict excessive wage growth in an attempt to increase competitiveness and productivity.
Spain has also overhauled its banking sector, forcing unlisted savings banks to seek private capital or face nationalisation.
“Spain must continue to give special focus to resolutely applying new structural reforms with the aim of getting the highest possible potential growth, improving its productivity and thus restoring investor confidence,” Trichet told the paper.
Asked about a possible rate cut in the medium term, Trichet reiterated that the outlook for the real economy had deteriorated and that there are “downside risks to growth”.
That was in line with the ECB’s last statement on the economy after it met on interest rates early in September.
“This is a significant change compared with the assessment three months ago, when we thought that the risks were balanced. On the other hand, in July there were upside risks to inflation, but now they are balanced,” Trichet was quoted as saying.
Julian Callow, economist at Barclays Capital, said such comments indicate that “Trichet is still envisaging that there could be a rate cut in the future, but for now he is keeping his powder dry”.
The ECB has become very concerned about the weaker growth environment, and the downside risks associated with that, Callow said.
“Had he been excluding the potential for a rate cut, in our view he would have shaped his response differently,” Callow said.
A recent Reuters poll showed interest rates on hold at 1.5% until 2013 at the earliest, five economists out of 70 predicted the next move by the ECB would be to cut rates as soon as the next quarter.
Trichet underlined that all governments must strictly apply the plan adopted at a 21 July meeting in Brussels, when an emergency summit meeting of leaders of the 17-national currency area pledged to conduct a second bailout of Greece.