— updating with comments on monpol transmission, EMU divergence

LONDON (MNI) – The compliance with EU/IMF programs are a
precondition for ongoing liquidity support to national banking systems
in trouble, European Central Bank Executive Board Member Lorenzo Bini
Smaghi said Thursday.

Bini Smaghi stressed that the boundaries between monetary and
fiscal policies should not be blurred and that the monetary policy
“cannot take up the slack where fiscal or other authorities fail to live
up to their responsibilities.”

“The Eurosystem has provided and is still providing support to
those national banking systems which face liquidity needs,” Bini Smaghi
observed. “I would like to underline that the key precondition for such
a support is that the country concerned sticks to the EU/IMF adjustment
programme and are on track.”

The responsibility for ensuring the conditions for the Eurosystem
to support the banking systems of troubled peripheral countries lies
with the authorities of the countries themselves, he argued. “There
should be no doubt about it.”

ECB policy makers have recently cautioned that the central bank
would not accept Greek bonds as collateral in its refinancing operations
should political leaders opt for any kind of restructuring of Greek

Bini Smaghi said that while central banks “should and do provide
liquidity support to financial markets, they cannot provide solvency

“That would represent an encroachment upon the domain of the fiscal
authorities and blur the distinction between monetary and fiscal policy”
and thereby threaten the a central bank’s independence and “credible
pursuit of price stability,” he cautioned.

Bini Smaghi observed that “recent analyses by ECB staff members
suggest that the transmission mechanism of monetary policy is
normalizing” but warned that “in those countries where the sovereign
debt and bank funding markets have virtually seized up, its transmission
is threatened.”

“The interest rates on corporate loans and on mortgages, which
ultimately affect real economic activity, will be higher in countries
where banks are having funding problems,” Bini Smaghi projected.

At the same time, bond yield spreads of peripheral countries in
trouble are likely to be largely passed through to the cost of
financing for the private sector, he said.

Bini Smaghi warned that this may have a lasting effect on the

“The financial crisis and its impact on the functioning of
financial markets in some countries has led to a situation in which
cross-country heterogeneity owing to differences in monetary policy
transmission may be more pronounced than before the crisis – at least
if effective remedial measures are not taken,” he said.

–Frankfurt newsroom +49 69 72 01 42; email:jtreeck@marketnews.com

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