Will bankers be our economic saviours?

Frustrated by the ineptitude of politicians in dealing with the never-ending financial crisis? Fear not; the world’s largest central banks have acted to improve the current global situation, hoping to prevent a double dip recession by stimulating world demand. More or less autonomous, the banks work independently of national governments.

From 5th December, the US Federal Reserve will reduce the cost of borrowing US dollars for five central banks: the European Central Bank, and the national banks of the UK, Japan, Switzerland and Canada. These national banks will in turn be able to increase the availability of dollars to their own commercial banks, at a reduced cost.

It is hoped that this will ‘trickledown’, subsequently increasing lending to businesses and consumers, thereby increasing aggregate demand across these countries preventing further stagnation and negative growth. The banks have also agreed to allow easier access to other currencies quickly, as and when demand dictates.

Working like a reduction in interest rates, these ‘dollar swaps’ aim to prevent future liquidity problems of banks owing to their US creditors, who of course, must be repaid in US dollars. The increasing pessimism surrounding the Eurozone crisis has reduced confidence in the stability of both the Eurozone banks and those closely linked (such as British and Japanese banks).

As such, commercial banks of the affected countries are finding it increasingly difficult to obtain dollars easily and cheaply from traditional sources like money markets and other banks. The new measures aim to provide an alternative supply whilst simultaneously reducing the commercial banks’ fears about levels of liquidity by making a cheap back-up supply available. Similar action has been taken by China, reducing the reserve requirement ratio in attempts to increase their scope for lending.

This should be good news for everyone. Central banks hope to get commercial and high street banks lending again, meaning that businesses and families will get the loans and mortgages that, since the beginning of the financial crisis, have been so elusive, increasing consumption and investment. This rise in demand across the economy should result in higher levels of economic growth and make some crucial progress towards economic recovery.

So has the crisis been resolved? Whilst the stock markets reflected an optimistic response to the announcement, rising rapidly and remaining high, many believe this to be a short-term fix for a long-term problem. The measures address just one symptom of the worsening Eurozone debt crisis, doing nothing to solve the problem of the spiralling budget deficit increases that many economists (and politicians) believe may never be repaid.

Others see this move as an admission from the central banks that the outlook is bleak, with dramatic measures to prevent the much dreaded ‘double dip recession’. The Organisation for Economic Co-operation and Development (OECD) announced earlier that this had, in fact, already started. Some fear for the costs of this move. The plan is far from risk free, with increased lending to banks deemed by the markets too risky to lend to, ultimately financed by national reserves with the tax payer footing the bill in case of a Eurozone collapse.