Is the ECB relevant?

The debate over why Maltese banks have not passed the fullness of the two latest deductions in interest rates announced by the European Central Bank to their borrowing customers is very topical. The latest pitch was former Central Bank Governor Francis Vassallo's in The Times Business of April 9.

I read it with attention for two reasons. Firstly, the great respect and admiration I still nurture for what Mr Vassallo engineered in local monetary policy practices and structures when he was in charge of the Central Bank. And secondly, because early on in his article I sensed what might be some lack of appreciation of certain realities inherent in Malta's banking market, which clearly distinguish the automatism which operates in other eurozone markets from ours.

In this argument, reference to the word "unparalleled economic and financial crisis" is relevant only to a certain point.

Not because it is unimportant, or because it is not hitting Malta, but simply because this crisis is having different effects in every country, and because each countries' economic fundamentals (including financial market characteristics) differ vastly.

One is tempted to posit a measure of great doubt about the real relevance of the European Central Bank's interest rate changes in a market like ours.

Our banks' exposure to whatever dependence on the Central Bank for either financing or deposit facilities is certainly not comparable to the closeness of other eurozone banking markets on their own central banks.

Some figures showing one potential aspect of this linkage may say much.

If statistics for our financial markets are in keeping with the Central Bank show that it is only a very small percentage exposure to whatever direction the ECB-CBM interest rate mechanism may take, then can one blame them for going their own way according to whatever view they take of their own specific depositor/borrower conjunctures.

It is also wrong to argue that the ECB wants "to create demand by reducing rates to all borrowers and depositors".

The demands of depositors in certain countries are often diametrically opposed to those of business borrowers who are always clamouring for ever lower financing costs.

It hardly bears repeating that it is il risparmio che è alla base di ogni piano (Saragat, World Savings Day, 1969)meaning it is savings that lie at the basis of any economic plan. If one makes such savings so unattractive (interestwise), then one can hardly expect lending banks to be suitably funded to provide credit.

Macroeconomics teaches us liquidity preference curve theory to underlie this reasoning and, short of advocating totally all-equity banks, the theory is one which simply cannot be ignored.

Francis Vassallo is totally correct in considering the possibility that Maltese borrowers use foreign banks for their financing needs.

I am sure that as Maltese businesses become ever more sophisticated in seeking alternative financing structures, then the currently existing peripheralisation of our lending markets from eurozone realities and our banks from the ECB-CBM nexus, will gradually diminish.

Until then, it is totally incorrect to automatically expect ECB interest rate changes to be replicated in the Maltese financial markets to a level identical with that occurring elsewhere in the eurozone.

The author teaches in the Department of Banking & Finance of the University of Malta.