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Italy is now the largest borrower from the Eurosystem

By Sober Look

As European banks find some private sources of capital to fund themselves, they continue to repay their ECB loans – particularly in the 3y LTRO program.

FoxBusiness: – Next week, nine banks will repay just over 4 billion euros … in loans during the first round of three-year financing in late 2011, ECB data showed Friday. Eleven banks will repay just under EUR4 billion of the second borrowing spree in early 2012. Total repayment is just over EUR 1 billion more than was repaid this week.

LTRO balances in the Eurosystem (unit = €1mil; source: ECB)

Part of this repayment trend however is coming from over-borrowing in early 2012. As banks, particularly in Spain saw their deposits dwindle, they went into a panic mode, borrowing all they possibly could – particularly with Spain’s government “encouraging” them to buy government paper. But as portions of the deposits came back (see post) and banks being able to sell some government paper (thanks to the ECB’s commitment to buy it), they are repaying some central bank borrowings.

One of the issues Eurozone banks are facing is that they simply can’t grow their assets – in fact balance sheets are shrinking. Due to tougher regulatory capital environment as well as general fear of extending credit, lending has been grinding to a halt. Loans to corporations have been declining steadily for some time.

Change in loan balances to companies year-over-year (source: ECB)

And loans to households are basically not growing.

Change in loan balances to households year-over-year (source: ECB)

With banks not willing to extend credit nor sit on cash, the only viable option is to repay some of the liabilities – hence the decline in LTRO balances.

Of course the repayment of LTRO has been uneven across the Eurozone.

Source: Credit Suisse

Spain, having been the largest borrower, also had the largest (in absolute terms) reduction. Clearly most German banks don’t need this funding, given the growth in the nation’s deposit base. Italy on the other hand remains a problem. In fact Italy is now the largest borrower from the Eurosystem, as Spain dropped to second place. Given the devastating recession and the political uncertainty Italy is facing, LTRO balances of Italian banks will be critical to watch going forward.

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Sober Look is a no-hype financial markets/macro blog that typically relies on data analysis, primary sources, and original materials. We keep it concise, to the point, with no self-promoting nonsense, and no long-winded opinions. If you are looking for Armageddon predictions or conspiracy theories, you will be thoroughly disappointed. Topics include financial markets, banking, asset management, risk management, derivatives, global economy, policy, and regulation, with the emphasis on finance education. Follow him on his blog or twitter.