What is the answer to bank liquidity?

Chris Joye has a good piece today examining the shortcomings of the RBA’s Committed Liquidity Facility (CLF) for banks (cash for coconunts as we call it at MB):

The Reserve Bank of Australia’s unique Committed Liquidity Facility – a little-known, taxpayer-backed “line of credit” to help banks overcome solvency crises – creates as many problems as it is intended to address.

The RBA claims there is a difference between an “illiquid” and an “insolvent” bank, and the new facility, which could be as large as $380 billion, will be made available only to “solvent” institutions.

…The Committed Liquidity Facility opens a Pandora’s box of problems. The most obvious concern is that it inverts the logic of the Basel Committee’s post-GFC policy remedies by entrenching taxpayer loans as a first, rather than last, line of defence against bank collapses.

A second class of concerns relates to who actually controls, and is responsible for, the CLF and the manner in which it is deployed.

The facility was designed and announced by APRA and RBA staff with no public debate or oversight. The bureaucrats’ view is that it was within their mandate to do so.

…In contrast to the Basel Committee’s recommendations, and the models adopted by overseas regulators, APRA and the RBA have also refused to allow Australian banks to hold rated corporate bonds and asset-backed securities as “Level 2” liquid assets. APRA argues that Australian bonds are not liquid enough to warrant inclusion. But this logic is circular: if you actively discriminate against them, you undermine market liquidity.

Regular readers will note that I have made the same objections many times. They boil down to a lack of transparency and accountability, as well as bulging moral hazard. They are very real and very large issues.

The problem is, now that we’re in this situation, with four too-big-to-fail banks squeezed between inflated assets and the foreign debt that inflated it, unless you want to let the system collapse under duress there is no choice but to provide some form of liquidity support.

Chris Joye’s implied answer, of allowing banks to hold each others assets, is no answer at all. The real differences between the banks balance sheets are so small that under stress all four majors are likely to be in trouble together so why would you have them hold each others assets? As well, asset-backed securities (by which Mr Joye means mortgage backed-securities) proved in the GFC to be no more liquid under stress than anything else.

Mr Joye has also argued in the past for government guarantees to RMBS, such as those provided in Canada, but that hardly solves the issues of transparency, moral hazard or accountability does it?

I can accept the RBA’s facility (as well as other government guarantees) as the least worst solution. What they need, however, is greater transparency, appropriate oversight (including tax-payer representation on bank boards) and market-related fees.

I have previously suggested some kind of new agency or function based around the US’ Federal Deposit Insurance Corporation as a solution. But you probably need a new banking inquiry to look at at all options honestly. I say probably because the fear is it will simply become a vehicle of liberation for the next round of credit cavaliers.

David Llewellyn-Smith


  1. “Unless you want to let the system collapse under duress there is no choice but to provide some form of liquidity support.”

    Well, there is a third option: provide no such option to the banks, and they will become more prudent, especially with their reserve ratios. I guess though that you are (rightly) pointing out that, unfortunately, all these types of bank-support programs have been in place for years, and with a large housing bubble to boot, so withdrawing them will crush the banks. That’s still my preferred option though.

    Banks do not need special treatment.

    • The act of licencing an institution to create money within guidelines is in itself special treatment.

      Given that governments want banks to lend and promote growth in their economies, then not giving them special treatment is not an option, but that special treatment must include strict regulation.

      • I agree with you that if special treatment is given, we must strictly regulate. My opinion is that the special treatment should be remove, along with the regulation.

        • No problem, I’m the son of a blacksmith, I could easily adjust to 18th century living.

          God help the rest though.

  2. Good article by Chris Joye, but his solution to the Bank moral hazard problem is to expand moral hazard to the non-bank sector. That is an acceptable solution to his industry, not so much for the taxpayers.

    These reports of behind the scene deals cut at taxpayers expense makes me wonder if some of the RBA bank staff have a great future in the private banking sector via the revolving door?

    • Appears the RBA staff have adopted the revolving door shenanigans of Wall St, Treasury and the Fed. Worse still, these Government agencies have thrown their support behind the other great US gift – ‘privatise the profits; socialise the losses’.

  3. The Patrician

    Is it too cynical to suggest that given Mr Joye’s proximity to some coalition heavyweights that his musings may well become the new govt’s policies?

  4. Simply delete the notion of limited liability from corporate law. That should focus the shareholders’ minds rather promptly.

  5. Deus Forex Machina

    “The RBA claims there is a difference between an “illiquid” and an “insolvent” bank, and the new facility, which could be as large as $380 billion, will be made available only to “solvent” institutions.”

    This goes to the Heart of what Bagehot wrote about banking 100 years ago. Before the too big to fail banks, before the big bull run in credit of the past 15 – 20 years.

    So as I have noted in the past I support this move 100%.

    The RBA and APRA will be in a strong position to see what is going on should a Major, Regional or Mutual get into trouble and access the CLF.

    This facility will enable them to seek resolution in a time frame of their choosing not one driven by factors that may be beyond the control of the institution itself or sourced offshore.

    It is also a defence against predators who may seek to destabilise a bank for their own gain.

    The CLF is clearly in the national interest and should be applauded.



    • What makes anyone think that the RBA and APRA can tell when a bank is insolvent?

      And where is the process for managing an insolvent major bank when all banks are likely to be under pressure at once?

      • Deus Forex Machina

        All I would say is that the RBA and APRA are going to be in with a better chance than almost anyone else in the economy than the bank managers themselves and probably including the bank managers as they will be too close to it.

        we have to trust someone at some point to act in our best interests as a nation and at present it is the RBA and APRA.

        As to your second point – yep heaven help us. That’s why DT calls it megabank, could be ugly



    • It is also a defence against predators who may seek to destabilise a bank for their own gain.

      Are these “predators” breaking any rules? Why do the banks need government protection from the free market when it suits them?

      • Deus Forex Machina

        That depends, sometimes yes sometimes no.

        But it is easier to say a bank is insolvent or vulnerable when the time comes then it is to say it is strong.

        These things feed on themselves and the CLF may in the end protect managers and shareholders to some extent but it is really meant to protect the banking system and depositors.

  6. how many times has this happened in history and how many times have we tried to stop / solve it???

    3 versions of BASEL and we still have the same issue people had 100 years ago !

    1). Banks over extend, get into trouble
    2). taxpayer foots the bill
    3). Govt promises reform (BASEL) and a lifeline (CLF, FDIC whatever)
    3). banks now have a saftey net – and get into MORE trouble knowing the Govt (ie: taxpayer) has their back

    cycle repeats !

    • Deus Forex Machina

      Yep banking still gets into trouble for the same reasons it always has but the CLF might actually ensure that the taxpayers doesn’t necessarily foot the bill.

      The RBA will buy securities that are backed by residential mortgages. If the bank ultimately fails the RBA would ultimately end up as the owner of those mortgages or at least the cash flows from the trust they are in. But assuming that home owners keep paying their mortgages then the RBA gets the cash flows and simply has to fund the loans.

      The taxpayer isn’t really on the hook because the RBA can fund at the lowest rate in the economy and the home owners pay a margin over the cash rate for their mortgages. So it is a positive pick up for the RBA.

      I am simplifying a little and of course it is a big assumption that defaults won’t be rising and mortgagors will be able to pay on time because the thing that takes down a big Australian bank is obviously going to have dire economic consequences.

      And of course if it is a smaller institution in strife then a white knight is likely to be found somewhere in the Australian banking space.

      But the CLF is an elegant way of securing the RBA’s lender of last resort activities so that the tax payer is not on the hook in the fashion it would be without the CLF if the RBA stepped in to support an Australian ADI.



      • I’d like to ask a question of Greg.

        You note that the RBA would be getting a pick-up from the RMBS. Is it possible that the same problems that cause a bank to be illiquid and have to seek out help from the CLF could also cause the RMBS to unwind, leaving the RBA holding vapour?

        • Deus Forex Machina

          Unlikely Mr Walker –

          The RMBS Structures in the CLF will be discrete structures where a pool of mortgages have been “sold” to a trust.

          It is not risk less for the RBA because they can lose money eventually if the number of defaults grows such that they start to lose portions of capital.

          Which is the other side of the CLF.

          Recognising that they are the last line of defence and also recognising that they ultimately could or would possibly take on a lot of RMBS and thus a lot of mortgages the RBA, like the BoE and ECB, is changing the rules on what is acceptable as security to be included in the CLF.

          It is still at consultation stage but what they are essentially saying is if we are going to back stop you banks, and building socieities and credit unions then we want better data, down to loan level, but also consistent data across the market not the hotch potch of stuff that is produced now.

          The European Data warehouse is in testing stage and the RBA will tender this year for an Australian version once it has settled on the data it wants.

          If you are interested here is the link to the relevant stuff from last year.

          Guy Debelle’s speech:

          and details of what they want




      • Greg

        I can understand the purpose of the CLF. I can also agree that this CLF might be the ‘least bad’ method for a ‘solvent’ bank to cover their LCR requirements in stressed times.

        What I cannot grasp is … How is the RBA going to stump up the $$$ to finance the facility in the first place? It must be by simply typing a few (lots) of digits onto a keyboard a press send!

        • Deus Forex Machina

          Yep – its that new Axiom we have learnt through the GFC in the US and UK.

          Central Bank balance sheets.



          • “The RMBS Structures in the CLF will be discrete structures where a pool of mortgages have been “sold” to a trust.”

            That has a familiar ring to it!

          • “We have more Australian dollars than anyone else in the world because we print them”

            What he left unsaid is that – in the current monetary system, all of that “printed’ money can enter the real economy only in the form of debt, with banks and people like your good self clipping the ticket along the way.

          • Great Scott (in order to avoid blasphemy)
            How can a man is such a position be so ignorant? That is of course unless he means “We can print A$ and we know they will eventually result in debt denominated in foreign currencies to the equivalent of the amount printed but we don’t give a damn!”

          • I’m with you guys. This does indeed “have a familiar ring to it”.

            We are in the time of the decline and fall of the world’s greatest ever civilisation. Whom the gods would destroy, first they make mad.

    • It’s been happening since the Medici family ruled Europe banking in the reformation. They wrote the rules.

      Lenders tend to overlend in the good times which are followed by the bad times, when the assets supporting those loans come under stress.

      Banking is a risky business but we would be worse off without it. So we learn to cope.

        • You seriously have no idea do you?

          I certainly don’t have the time to educate you, but you do need to try to understand what is happening around you.

          As a start, look at the economies of countries with limited or failing banking systems. Look at the health standards.

          • Try studying some history. To make the blanket claim that “we would be worse off without” banking [as we now have it] displays an abject ignorance of the history of “money” and banking.

            Oh wait .. hang on .. you’re the one regularly being called out for making a living off directly off the perpetuation of said banking system. ‘Nuff said.

          • Actually both housing and banking are such universal needs that almost everyone makes some of their income either directly or indirectly from them.

            I implore you to learn as much as possible about the subject.

            Start with health – here is a talk from a few years back by Hans Rosling

  7. Would it be simpler to deal with our mutant banks as follows when they eventually choke on their loans backed by inflated assets.

    1. Sack senior bank management and ban them from bank management or consultancy work for 10 years.

    2. Guarantee Australian depositors up to $500k

    3. Nationalise the Bank’s assets at market prices – less a nationalisation haircut. Market prices for a mortgage loan book are likely to require a steep discount.

    3. Distribute the remaining proceeds of nationalisation (after coverage of Australian Depositors) to the holders of bank bonds. Shareholder are unlikely to get anything after this process.

    4. Re-float as a new bank to recover the nationalisation funds.


    1. Management punished.

    2. Shareholders learn the meaning of capital at risk

    3. Bondholders learn meaning of risk

    4. Small depositors are protected

    5. New bank floated with strict requirements on lending secured by residential real estate.

    But seriously what politician will grow a pair and attempt this when the alternative is to simply have the taxpayer foot the bill and make some noises of regret.

    • Pretty much all of these options are already available to APRA / RBA in existing legislation and/or prudential standards.

      What’s to say that as a condition of being able to access the CLF, APRA appoints an inspector under s61 of the Banking Act to determine solvency of the requesting ADI?

      APRA could then appoint a statutory manager under s13BA to take control of the ADI – with the immediate effect that the Directors are removed from their posts. The stat manager has all of the powers of the board and can hire and fire, sell off parts of the business and do pretty much whatever the hell they like and the shareholders can do diddily squat about it.

      There are already disqualification persons sections as well as “fit and proper” prudential standards that directors and senior management must meet.

      Now as to the question of would a government allow APRA and the RBA to do this….well not whilst the bulk of shares of the majors are a significant portion of superannuation assets of the largest voting demographic!

      What would more than likely happen is government provides liquidity and funding support to a distressed major while the statutory manager goes through the business like a dose of salts. Unviable business units get canned and the risk businesses get the chop (no more prop trading for you). Senior management find themselves unemployed and bonus-less. Shareholders take a bath when the dividend is cut to nil and further pain if a recapitalisation is required.

      However, I’d be more worried about how the LMIs are meeting solvency if a major went to tap the CLF.

  8. “…. Sack senior bank management and ban them from bank management or consultancy work for 10 years….”

    I have sometimes said that with a threat something like this hanging over them, the big boys of Wall Street would have worked out their own solution to the famous “systemic risk” of 2007 and onwards.

    What is the possible reason that if there WAS an industry-originated solution that would have worked, the big boys would not have tried their luck anyway for a big handout of taxpayers money (and future taxpayers money?)

    • +100. Most transparent way for banks to show they are liquid, not some liquidity manufactured off a taxpayer funded keyboard via some back-room dealmaking between unelected, obscenely paid RBAcrats and even more obscenely paid Banksters.

      • Whew! Thanks Mav. I was worried it was just me! I’m reading Debelle’s speech (and I’ve read it before) and I’m thinking “This bloke has got to be kidding. This is just BS surrounded in fog!”
        I put it down to just being not up with things. However it IS, in essence, just debt and numbers being spun out and out to make more credit/debt and more money for parasitic banks at the expense of everyone else.

        • Deus Forex Machina

          Guys “the expense of everyone else” thing has to be flawed.

          Lets abstract bank managers for a while – the senior guys who many seem to have issue with – and think about what banks do.

          They borrow from mums and dad’s and businesses to lend to other mums and dads and businesses.

          They also fund the current account which supports the Australian standard of living.

          You can’t absent the Australian population and the huge borrowing that has gone on here from the equation and just blame the bankers.

          Everyone else would suffer if the Australian banking system got into the poo.

          Lets climb in our banking Gedanken machine and wonder what happens if one or more big guys go down.

          Foreigners stop lending to us.

          The Aussie dollar crashes back to 60 cents

          Inflation goes up as a result

          Unemployment rises


          so everyone else pays in the end.

          I’m not exactly disagreeing with you by the way it’s just so complex and intertwinned I think the RBA is trying its best to find the way through.



          • And, in long term consideration of the health of the economy, that’s all bad??????

            Now I know everything that is done to fix the damned massive distortions in this economy is going to hurt. Ev en further I believe as i’ve said long enough this tripe can’t be fixed. the answers lie back in time.
            No we can’t abstract the Australian population from all this. We’ve voted for, and got, the governments and ruling bodies we want. We’re all in it.
            So Now…Lets climb in our banking Gedanken machine and wonder what happens if one or more big guys go down.

            1. Foreigners stop lending to us
            So our current policy is for foreigners to lend to us forever at an ever increasing pace forever and ever in eventually unlimited amounts. Simple logic tells us this has to stop…or it WILL stop. Nevertheless I think you have mixed cause and effect there. it is almost certain that one of the big boys will go down WHEN foreigners stop lending to us and buying our assets.
            Meanwhile this policy is aimed at bringing on that outcome. It exacerbates everything that is wrong. It encourages more overseas borrowing and more lending for houses etc.

            2. The dollar crashes back to 60 cents….oh hell! You mean we aren’t going to be able to buy all those imported Benz’s BMW’s and flash SUV’s We might find Holdens aren’t bad value after all…along with Rosella sauce and a whole range of Aus made products.

            3. Inflation goes up as a result….Dammit Greg the last time i tried to point out this trend you ridiculed me and told me i didn’t understand inflation.
            Of course we’re going to get inflation. We’re going to get it in spades even without the currency devaluation. But why reinforce this inevitable outcome and encourage further consumption and debt in order, finally, to make this outcome more certain and more deadly.

            I’ll add in 4
            4. The interest rates rise OR we let inflation run amock. I’m betting on the latter option. The first will be too hard for us. We’ll only find the disastrous social results of our decision later.

            5. Yes unemployment rises and the more we reinforce these distortions the worse it will be. So why are we hell bent on making it worse.

            So why are we encouraging banks to take more risks, to lend more for housing which leads to higher consumption, which leads to higher foreign debt which will inevitable lead to a massive crash?

            I think the main problem here is that people are looking at this in a static frame. As you and others have pointed out when mega bank goes down there are lots of other things going to be happening. We are going to be in a universe of hell with dynamic self re-inforcing loops. As I said the fall of a major is more likely to come from NOT being able to borrow offshore. At that point there will be a lot going on and our Sovereign debt rating will be blown to hell.
            Whoever is designing this stuff is not thinking deeply enough about it. They’ve just got a cartoon drawing in a frame!

            At some point this all has to stop. But we won’t until we hit the wall. We’ll put the tax payer on the hook for the majors. When TSHTF we’ll keep all the execs because ‘we can’t do without them’ No doubt they’ll all take their $10M plus bonuses for their great management at the same time. We’ll keep on making our debt situation worse and worse. This time we’re doing it in the name of rescuing one of the big 4 or mega bank as a whole if their is a crisis.
            There will always be a reason why we shouldn’t take on painful reform. So we will never vote for it. So yes we are all in this together and we have to stop reinforcing this discredited, absolutely insane, debt model.
            The answers lie back in time

          • The Senior Bankers are not responsible for the laws and regulations and are expected to maximise shareholder wealth while keeping within the law. If they do that no problem.

            The focus of my complaint is not the bankers – unless they are incompetent in running their businesses and are responsible for losing millions of $ of other people’s money – whether they are shareholders, bond holders or depositors.

            I doubt that anyone would seriously want any of the banks to get to the point that liquidation / nationalisation is required.

            That would be an entirely undesirable state of affairs but at the moment the only thing the RBA is doing is:

            1. Redistributing income from those who have not joined the debt party to give to those that did.

            2. Encouraging fresh participants to take on debt.

            No action at all is being taken to wind down the debt party – it remains a 150-160% of disposable income tumour on Oz households and the national economy.

            No action is being taken to limit the banks from doing it all again.

            And the reason given is that to try will destroy us all.

            That assessment is too bleak.

            I think too many are jumping at shadows many of which are conjured up by the banking industry itself – unsurprisingly.

      • au and ag would not help.

        So long as you control the auditing / reporting of the (alleged) reserves, supposedly backing a fiat currency with any commodity would change nothing.

  9. tsport100MEMBER

    This story was sold as a back-door bank bailout, with over $14B on taxpayer cash already poured into the low-doc RMBS market… is this a bank bailout of just doubling down?