(Bloomberg) -- Central banks need to address the stigma attached to using their liquidity facilities so that banks won’t be put off using them when they are needed, according to Bank of England Deputy Governor Sarah Breeden.
Speaking at an event in Washington on Wednesday, Breeden warned that the perception that such facilities are primarily crisis management tools could reduce their effectiveness. Others, including S&P Global Ratings, have also highlighted the need to change how these facilities are viewed in the market.
“I remember very clearly in 2007 Barclays were on the front page having borrowed overnight against gilts from the Bank of England,” Breeden said. “I very much hope that the use of prepositioned collateral, the role that plays in the formal regime and managing stigma is something that central banks and regulators globally will come back to as part of the follow up.”
Breeden was discussing the lessons learned from last year’s regional banking failures in the US, including Silicon Valley Bank, one of which was that central banks need to be able to provide quick liquidity shots to stabilize the system.
SVB’s British operation was rescued by HSBC Holdings Plc after it faced a devastating run as customers withdrew billions of pounds of deposits in a matter of hours. Breeden said the solution was not to increase liquidity resilience within the banking sector but to demand banks pre-position collateral at the central bank that can be swapped in an emergency for cash at short notice.
UK banks have £300 billion at the BOE for such an eventuality. Breeden said the availability of well-understood emergency funding also helps by removing the “stigma” of asking the central bank for help. Barclays in 2007 tapped the BOE for overnight money — now a standard visible part of the liquidity regime — and it led to alarming newspaper stories.
“Pre-positioned collateral means a chunk of unencumbered assets that are on a bank’s balance sheet can be converted into same day liquidity without having harmful effects on lending or growth,” she said.
Funding Operations
In May, Governor Andrew Bailey outlined a shift in the way the BOE provides cash to commercial lenders by relying more on “repos” — or short-term loans secured against collateral. The hope is that these will wean financial markets off its bloated balance sheet by reducing the risk that banks cannot access funding when reserves drop too low.
Financial institutions are already increasingly tapping the BOE’s weekly short-term repo facility. They borrowed over £41 billion at an operation last week, compared with a low of about £700 million at the start of the year.
But Vicky Saporta, the BOE’s executive director for markets, has said she would welcome more banks tapping the separate six-month indexed long-term repo facilities. While usage has increased in recent months, it remains a fraction of the short-term borrowing.
Breeden added that her biggest worry is the growth of non-bank finance and how that links into the banking sector.
“What we need is to make sure we haven’t accidentally created a route back to systemic risks into the banking sector,” Breeden said.
--With assistance from Greg Ritchie.
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