Trichet: ‘Banks will not forget that their job is to lend’

"We call upon the top management of the commercial banks to take these decisions into account and recognize that they are operating in an environment in which a lot of the fundamental risks to liquidity and solvency have been addressed"

At what specific moment did you realize that we were in a financial crisis of unprecedented magnitude?

On August 9 2007 we were the first central bank to identify that we were starting to see a hugely turbulent period as a consequence of abnormal behaviour in financial markets. That day we lent €95 billion for 24 hours to the market at a fixed rate.

Before this, we had said publicly already back in 2006 – as did other central banks – that global financial markets were under-assessing the quantity of risk and underpricing the unit of risk, so that there was a need for a correction. By saying that, we tried to prepare markets so that the coming change would be as smooth and efficient as possible.

What for you has been the moment of greatest danger to the financial system?

First, we saw the striking widening of spreads in the money markets starting in summer 2007. We could see that this was more than an abnormal short episode and that it had no recent equivalent. It was one of the illustrations of a generalized re-appreciation of risks in global finance.

Second, in mid-September this year, we witnessed a very significant intensification of the crisis and of the tensions in financial markets.

Has the coordinated global response been as timely and far-reaching as it could have been?

I think anyone would say that in the context of the crisis central banks have acted promptly and expeditiously to the challenges we have faced. And the same holds true for governments in terms of recapitalization and of the provision of state guarantees, medium-term finance. In this context we, the ECB, have played a useful role in terms of proposing an appropriate concept for pricing guarantees and the principles of the recapitalization.

Even before the crisis intensified we had engaged in concerted cooperation with other central banks. For example, we were already providing dollar liquidity in Europe on the basis of a swap agreement with the US Federal Reserve.

How will this cooperation progress?

The main lesson we have to draw from the handling of the crisis is that we have to avoid a recurrence of such a series of events. We have to do this systemically, purposefully and professionally and without any kind of privilege to any part or parcel of the global financial system. There must be no taboos, and equally no scapegoating of one or two particular sections of the global financial system in an attempt to find a unique culprit.

Everything has to be improved. It is the system itself which is at stake. It has proven to be too fragile, and we have to improve the resilience of the entire system.

As it is a global crisis, in a global market, does that mean we need a global regulator?

You have indeed to think globally in terms of regulation. In this respect, central banks and banking authorities were historically prompt: we engaged in global deliberations on the appropriate banking prudentials already from the 1980s onwards.

In this present globalized environment it is clear that we need global financial concepts, global rules and global prudentials. I do not necessarily think that these concepts, rules and prudentials need to be enforced at a global level by a single global institution. But surveillance of the decentralized implementation must be exerted by peers – they must ensure that rules are properly applied by the appropriate regulators across the world’s markets and economies.

What would happen if a bank in Europe was in serious difficulty, and its collapse would provide a systemic threat to financial markets, but the appropriate national government was either unwilling or unable to provide a bail-out?

I would present the question differently. We have observed that in a significant number of cases European governments have taken responsibility and prevented systemically important institutions from going under.

For example, I myself was asked by the prime minister of Belgium to go to see the country’s Council of Ministers together with Guy Quaden, Governor of the National Bank of Belgium, to explain why we felt it was important not to let a particular institution go under.

This support has been provided across the 27 EU nations for key financial institutions. We cannot become complacent but we can be pleased that so far Europe has acted appropriately.

Given the repercussions that the collapse of Lehman Brothers had on the market, was it in hindsight a bad decision to let such a systemically important bank fail?

I would not criticize any particular decision. I would only say that it is clear that on September 15 a new intensification in the tensions within financial markets began.

The ECB is accepting an increasing array of securities as collateral from Europe’s banks in an effort to get them lending again. What pressure is this putting on the size and quality of your balance sheet?

All central banks in the industrialized world have been called upon to take exceptional decisions. Today we are supplying unlimited liquidity at fixed rates on a one-week, one-month, three-month and six-month basis. We have recently enlarged the eligibility criteria for collateral.

Our balance sheet is about 55% larger than it was 12 months ago. This of course is a huge leap that emerged more or less in all central banks of the industrialized countries.

Everything that we have done is aimed at enabling financial markets to function normally again.

Do you have a timescale in mind for when you might begin to manage down your balance sheet?

I should point out that we are constantly trying to improve our own risk management, taking into account the fact that we take more potential risks on our collateral, and we have already made public a number of measures in that direction that will be implemented next year.