A Note on Emergency Liquidity Assistance, the ECB, the Bank of Greece, and Greek Banks

The capping of Emergency Liquidity Assistance (“ELA”) at €88.6 billion to Greek banks is what gave rise to the current Greek bank holiday, capital controls, long lines at ATMs, and great costs to the Greek economy. It also gave the hardliners among the Eurozone group of nations the leverage to get the Greek government to agree to very harsh terms in order to keep the euro and stave off immediate economic collapse.

To read the press articles on this, one would have the impression that the ELA are loans made by the European Central Bank (“ECB”). This is not true. It is national central banks that make the loans, but the Governing Council of the ECB can restrict what the national central banks can do. The ECB’s two-page description of ELA procedures can be found here. The beginning part of the document states:

Euro area credit institutions can receive central bank credit not only through monetary policy operations but exceptionally also through emergency liquidity assistance (ELA). ELA means the provision by a Eurosystem national central bank (NCB) of:

(a) central bank money and/or     

(b) any other assistance that may lead to an increase in central bank money to a solvent financial institution, or group of solvent financial institutions, that is facing temporary liquidity problems, without such operation being part of the single monetary policy. Responsibility for the provision of ELA lies with the NCB(s) concerned. This means that any costs of, and the risks arising from, the provision of ELA are incurred by the relevant NCB.

However, Article 14.4 of the Statute of the European System of Central Banks and of the European Central Bank (Statute of the ESCB) assigns the Governing Council of the ECB responsibility for restricting ELA operations if it considers that these operations interfere with the objectives and tasks of the Eurosystem. Such decisions are taken by the Governing Council with a majority of two-thirds of the votes cast…

Note that the document states that the NCB, in the current case, the Bank of Greece, bears the risk arising from ELA loans. Therefore, what the Governing Council of the ECB has done ostensibly to protect the Bank of Greece is to raise the haircuts on Greek government debt presented as collateral to the Bank of Greece (“The financial situation of the Hellenic Republic has an impact on Greek banks since the collateral they use in ELA relies to a significant extent on government-linked assets”) and to cap the amount of the loans. Of course, this very action served to damage the Greek economy and make it more likely that Greece would default on its bonds.

The ECB is supposed to be an independent central bank, but this decision has all the marks of having been done for political reasons. It would be interesting to know what the President of the ECB, Mario Draghi, thought about this and why at least two-thirds of the voting members of the Governing Council voted the way they did. It may be some time before we know the answers to these questions, though, given the number of people involved, I suspect we will eventually learn something about what transpired.

Make no mistake. It was not the missed payment to the IMF that caused the current, acute economic crisis in Greece. It was the decision of the ECB Governing Council restricting the Bank of Greece to use ELA. This caused a run on the Greek banks, with the Bank of Greece not being able to provide more physical euros to the banks. Removing the current restrictions on account withdrawals and the capital controls will be difficult and will take time, because of the fear that this would engender more withdrawals and transfers of funds to foreign banks.