Eurozone capitals and banks will compete for funds: ECB

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The eurozone economy is "fraught with risks" as governments scramble to balance budgets and compete with banks for trillions of euros in financing, the European Central Bank said Thursday.

"The overall economic and financial situation is still fraught with risks for financial stability," the ECB said in its twice yearly Financial Stability Review.

The central bank study found the most important source of concern stemmed "from the interplay between sovereign debt problems and vulnerabilities in segments of the euro area banking sector."

Countries like Greece, Ireland and Portugal are struggling with debts for which bond markets demand higher rates of interest to finance, and some banks that also need financing are being squeezed aside by the sovereigns.

"This means that there are strains going forward in the funding and the liquidity of banks," ECB Vice President Vitor Constancio told a press briefing that coincided with the publication's release.

One reason eurozone debt has soared is because governments approved massive bank rescues in the wake of the US mortgage market meltdown and the collapse of the US investment bank Lehman Brothers.

While eurozone economic growth has since surpassed expectations, some banks still cannot get funding on capital markets and depend on ECB cash to stay afloat.

Constancio said eurozone banks will need more than one trillion euros (1.32 trillion dollars) in the next two years to cover maturing bonds, and that US banks would need a bit more, suggesting capital markets will be crowded.

But private sector savings rates are rising "so there will be a little more savings to face that problem," he noted.

The ECB official encouraged governments meanwhile to increase the size of the European Financial Stability Facility, which can issue bonds on behalf of debt-laden countries.

He also urged banks to use growing profits to bolster capital buffers and make themselves less vulnerable to interbank lending conditions.

© 2010 AFP

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