How I Learned to Love Bazookanomics

There is such a thing as Stockholm Syndrome — in which one falls in love with one’s captor.

I wonder if it’s caused by a lack of or an overactive imagination — or by limited options — by scarcity of choice.

After years of exclusion, I don’t know if I will ever be able to explain how I managed to reinsert myself into society, but either way, if you’ll excuse the minor digressions, here is my humble attempt to explain the situation.

When discussing the global economy I find it hard to ignore the key role played by the European Central Bank.

The standard version of events is that Mario Draghi, ex-Goldman ECB Chief, started gobbling up €60 billion of bonds a month as of March 2015 in what became known as ECB QE.

Two years previously in Naples Draghi had told the world that he’d do ‘whatever it takes’ to save the Euro.

This love-letter to the Euro is also known as the Bazooka speech.

Financial markets were ecstatic — they lay in wait for . . . Mario’s Bullet!

But who would have thought he meant cannibalism?

The ECB’s approach to markets is now far less conservative than Bagehot’s or even Biggie’s whose maxim: Never get high on your own supply would be considered backward by today’s standards.

€10 billion of Draghi’s monthly QE bond purchases is spent on buying Covered Bonds — also known as Pfandbriefe.

Covered Bonds are supposed to be among the safest products investors can trade on bond markets. They originate in the 18th Century from the days of the Prussian Empire. When you say “Pfandbriefe” to an affluent German she or he nods knowingly and smiles.

Covered Bonds have such a good reputation among savers and investors because  :

1. Covered Bonds can only be issued by banks
2. The bank requires significant collateral from its borrowers before making the long term loans that back up the covered bonds (asset encumbrance)
3. In the event of a borrower default, the Covered Bondholder’s claims are first-in-line
4. Investors are less likely to lose their money as the amount the bank lends is higher than the value of bonds it issues. (over-collateralisation)
5. Even if the bank goes bankrupt, the borrowers continue to pay off the Covered Bond-holders so no investor loses out. (dual recourse mechanism)

For these reasons, until now, unlike normal bank bonds, Covered Bonds have NEVER defaulted.

For more on Covered Bonds: Upside Down World of Covered Bonds – Handelsblatt Global Edition

I first came across Covered Bonds when Redbridge Council in London refused to comply with a request I made them to release the paperwork for some questionable borrowing (LOBOs) they had engaged in with banks like Barclays and the UK state-owned Royal Bank of Scotland (RBS),  & the Dublin-based German state-owned bank DePfa (for more on DePfa read the excellent but disturbing Ireland was Germany’s Off-Shore Tart).

Redbridge’s refusal to comply with my request stated that transparency could have a detrimental effect on its lenders’s share price and on the related Covered Bonds.

This piqued my interest as, despite having worked in banks and bonds, I’d never heard of Covered Bonds.

That was when it dawned on me that Redbridge’s response had been drafted by lawyers or PR people from either Barclays or RBS.

Barclays have been big lenders to the UK and European Public Sector in the form of LOBOs and PFI. It turns out they first released a UK Public Sector Covered Bond in 2009 — which is stuffed full of LOBOs.

This Covered Bond allowed its investors to get exposure to Barclays’s growing structured finance portfolio. Barclays issued more bonds as part of their PFI Infrastructure Funds portfolio.

The amount of effort required to dig into these opaque products was more than I could afford at the time so I decided to abandon my investigations in favour of trying to make ends meet.

But upon hearing that Draghi was buying Covered Bonds in late 2014 I had to get back in the game.

Having worked for Spanish Banks in Madrid during the early days of the financial crisis, I assumed Mario Draghi was buying these Covered Bonds to plug the black holes in South European balance sheets resulting from the exposure to various housing bubbles.

In what was intended to be an act of solidarity with everyone in southern Europe but partly out of curiosity, I sent the ECB a Freedom of Information Request requesting the identities of the banks whose Covered Bonds they’d been purchasing.

That was nearly eighteen months ago now.

The ECB’s initial response to my FOI was a work of art and gave little away. Just like with the Redbridge response, my reaction was one of extreme paranoia:

The lack of a smoking gun is a sign that there is a smoking gun!

I drafted a response which I hoped people might take seriously. But I found it hard to motivate anyone to relate to the issue. When I mentioned it to financial reform campaigners in Brussels they all wished me the best of luck.

But I got the impression I was wasting their valuable time as well as my own.

 

Many Germans are unhappy with the way Draghi is running the ECB and some openly talk about performing a coup and putting a German in his place.

By buying up all the safest investments Draghi is forcing EU pension funds and insurance companies to take more risk with their clients’s cash.

And with interest rates below rock bottom and oil prices only just recovering this is likely to lead to another financial bubble as investors are having to take more risk in order to make saving worthwhile.

Despite recently announcing even more QE this year – it is buying Corporate Bonds this time – the ECB continues to refuse to reveal whose bonds it is buying.

And nobody seems to want to know!!!

No journalist or newspaper that I have come across is making a big deal out of the ECB’s secrecy.

Even the likes of Yanis Varoufakis and Paul Mason who have seen these double-standards up close don’t seem to be saying anything.

Just as UKIP campaigners have done precious little to inform UK citizens about the workings of trade law and the implications of TTIP, CETA, & TiSA and how these trade deals fit in with Brexit, WTO membership, and  the implication all this has upon public services like health and education – they’ve shown even less interest in going beyond the emotional and actually explaining how the opaque ECB operates in conjunction with Brussels.

In America despite resistance to transparency at least you can look up (thanks, Bernie Sanders) the details of who benefited from FED Bailouts and TARP initiatives — but in Europe nothing.

My FOI appeal is supposedly being looked at by the European Ombudsman and not the European Court of Justice — but I’m not holding my breath.

So why don’t the ECB want us to know which Covered Bonds, Government Bonds, and Corporate Bonds they’re buying?

And why don’t any journalists or politicians want us to know either?

The ECB told me they don’t want journalists and financial markets to misinterpret the revelation of the identities of the beneficiaries in such a way as might have a negative effect on the entities whose bonds they didn’t buy.

They wouldn’t even accept that the people whose bonds they bought needed the money. Just that they didn’t want anyone to speculate on the relationship between the identities of the bond issuers and anything to do with the issuers’s own strength or weakness.

Here is what they actually said:

 While the distribution of purchases across issuers,
types of financial instruments and other dimensions in fact merely reflects the market conditions at the time of the purchases and the intention to maximise the impact of interventions on the stance and general credit conditions, while minimising distortions in market prices, information on such distribution may lead to market fragmentation and undermine the level playing field among issuers and originators, thereby contrasting the ECB’s intention of supporting the functioning of the relevant markets. For example, the disclosure of the names of issuers of covered bonds and originators of asset-backed securities effectively bought is very likely to cause an increased differentiation in spreads in favour of those issuers/originators whose financial instruments have been purchased by the Eurosystem. This, in turn, would undermine the financing efforts of the issuers whose financial instruments have not been purchased. Furthermore, the disclosure of these names may be perceived by the market as indicating a differentiation between financially sound and weak issuers and originators. 

Welcome to modernity, people. This is allowed. No-one says a thing.

Bloomberg and FT journalists and market participants say it’s common knowledge that the ECB has been buying up German Bonds.

So after all the noise last year about Greece’s inability to balance their books, the Superhuman Germans have been caught with their hands in the till.

Is that why we can’t know who Draghi has been printing hundreds of millions of Euros to bailout? In 2012 most of the Euro denominated Covered Bond issuers were German, Spanish, and French Banks.

ECB QE is not designed to save the Euro.

It looks like a stitch-up. Another billionaire bank bailout.

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What Now?

There are still so many unanswered questions. I am going to ask the UK Treasury Press Office if they can help out.

Apparently Barclays have written down £100’s millions of their LOBO lending.

How does all this affect Barclays’s two Public Sector Covered Bonds?

A good question to ask at Barclays upcoming AGM.

And now that Housing Associations have been reclassified as belonging to the Public Sector, does this mean that any Covered Bond that contains a loan to a housing association has been transformed overnight into a hybrid Public Sector Covered Bond?

When I last asked the FCA and Treasury two years ago I believe what they were trying to tell was that they don’t regulate LOBOs or Public Sector Covered Bonds. 

I wonder if that is still true and, if so, why this remains the case.

With the UK Municipal Bond Agency just about announce its first bond issue, the issue of Public Finance isn’t going away.

In March this year it was announced that the Greater London Authority will be investing in Mortgage-Backed Securities.

I’d like to ask Sadiq Khan what he thinks of all this.

Back in November neither he nor Zac Goldsmith answered my emails asking about their plans for the NHS in London.

Given that Manchester’s Mayor was recently given full control over its £6 billion health budget it seems fair to imagine the Mayor of London will be given the same.

This opens the door to the same federalism in the UK that most Tories have historically claimed to oppose in Europe.

Last July I wrote a piece about Jim O’Neill’s maiden speech in parliament and his involvement in George Osborne’s Devolution for Cities agenda.

 

For now I will content myself with emailing Treasury on Monday to find out what they know about the decision not to regulate LOBOs and Covered Bonds.

Dear Press Office,

I’m a freelance investigator whose research has been used by Private Eye, FT, Evening Standard, The Independent, and Channel 4 Dispatches.

Could you tell me whether :

1. UK regulatory agencies oversee all UK Public Sector Covered Bonds?

2. UK regulatory agencies oversee all LOBOs?

3. UK regulatory agencies reclassified as Public Sector Covered Bonds those Covered Bonds whose collateral is made up of housing association loans?

Perhaps one day I’ll summon the courage to ask Treasury what they think of RBS’s Euro-denominated Covered Bonds and whether they care if these might have found themselves in the line of fire of Mr Draghi’s Bazooka.

The last time I asked them the ECB denied this could ever happen — but I’m not sure if I really understood what they were saying.