ECB 8217 s Greek Collateral Damage

The euro erases all its Tuesday gains yesterday after the ECB announced it would end a waiver that allowed Greek banks to use Greek government debt as collateral for low-cost ECB funding. It won’t cause an immediate bank crisis because it doesn’t apply until Feb 11 but it’s the kind of announcement that sparks a bank run.

Hours after Greek finance minister Varoufakis met with ECB president Draghi yesterday, the ECB dropped another type of bazooka, deciding it will no longer accept Greek sovereign bonds as collateral, leaving Greek banks in the precarious position of solely relying on Emergency Liquidity Assistance (ELA) to meet their liquidity needs in the event that no agreement is reached with the ECB by February 28th

Higher cost of funding

The ECB decision emerged because “it is currently not possible to assume a successful conclusion of the programme review… in line with existing Eurosystem rules” it stated yesterday.

The ECB announcement means that Greek banks will now obtain ELA funding from their national central bank at higher rates, assuming the ECB continues to grant approval to its Athens branch in supplying funds to local banks. The procedure is reviewed twice per month.

Beware of another euro squeeze

As severe as the ECB announcement appears, it likely represents the central bank’s opening gambit in what will be several rounds of negotiations with Athens and Berlin over the next four months. FX traders see EURUSD as the systematic sell, but EURJPY appears to be a preferred candidate as the USD is likely to come under pressure from this month’s Congressional testimony by Fed Chair Yellen and the release of the minutes from the January FOMC meeting, where more ink will likely to have been spilled with regards to the Fed’s preoccupation with “international developments”. These dynamics are likely to trigger fresh short squeeze for EUR pairs, but the downdraft from the realities of Greek finances will continue to dictate volatility flows.