ECB has new plan to boost Europe’s global influence

The European Central Bank is hatching a plan to boost the use of the euro around the world, hoping to turn the world’s faltering confidence in U.S. political and financial leadership to Europe’s advantage.

Liquidity lines — agreements to lend at short notice to other central banks — have long been a standard part of the crisis-fighting toolkits of central banks, but the ECB is now thinking of repurposing them to further Europe’s political aims, four central bank officials told POLITICO.

One aim of the plan is to absorb any shocks if the U.S. — which has backstopped the global financial system with dollars for decades — suddenly decides not to, or attaches unacceptable conditions to its support. The other goal is to underpin its foreign trade more actively and, ultimately, grab some of the benefits that the U.S. has historically enjoyed from controlling the world’s reserve currency.

Officials were granted anonymity because the discussions are private.

Bruegel fellow Francesco Papadia, who was previously director-general for the ECB’s market operations, told POLITICO that such efforts are sensible and reflect an increasing willingness among European authorities to see the euro used more widely around the world.

What’s a liquidity line?

Central banks typically use two types of facilities to lend to each other: either by swapping one currency for another (swap lines) or by providing funds against collateral denominated in the lender’s currency (repo lines).

The ECB currently maintains standing, unlimited swap lines with the U.S. Federal Reserve, the Bank of Canada, the Bank of England, the Swiss National Bank, and the Bank of Japan, as well as standing but capped lines with the Danish and Swedish central banks. It also operates a facility with the People’s Bank of China, capped in both volume and duration.

Other central banks seeking euro liquidity must rely on repo lines known as EUREP, under which they can borrow limited amounts of euros for a limited period against high-quality euro-denominated collateral. At present, only Hungary, Romania, Albania, Andorra, San Marino, North Macedonia, Montenegro and Kosovo have such lines in place.

But these active lines have sat untouched since Jan. 2, 2024 — and even at the height of the Covid crisis, their use peaked at a mere €3.6 billion.

For the eurozone’s international partners, the knowledge that they can access the euro in times of stress is valuable in itself, helping to pre-empt self-fulfilling fears of financial instability. But some say that if structured generously enough, the facilities can also reduce concerns about exchange rate fluctuations or liquidity shortages.

Such details may sound academic, but the availability of liquidity lines has real impacts on business: A Romanian carmaker whose bank has trouble securing euros may fail to make payments to a supplier in Germany, disrupting its production and raising its costs. 

“The knowledge that foreign commercial banks can borrow in euros while being assured that they have access to euro liquidity [as a backstop] encourages the use of the euro,” one ECB rate-setter explained. 

“Liquidity lines, in particular EUREP, should be flexible, simple and easy to activate,” he argued. One option, he said, would be to extend them to more countries. Another could be to make EUREP a standing facility — removing any doubts about whether, and under what conditions, euro access would be granted.

Papadia added that the ECB could also ease access to EUREP by cutting its cost, boosting available volumes or extending the timeframe for use.

Not just an academic question

French central bank chief François Villeroy de Galhau suggested in a recent speech that Europe could at least take a leaf out of China’s book, noting that the Eurosystem “can make euro invoicing more attractive” by expanding the provision of euro liquidity lines.

China has established around 40 swap lines with trading partners worldwide to underpin its burgeoning foreign trade, especially with poorer and less stable countries.

By contrast, the ECB — a historically cautious animal — “is not marketing the euro to the same extent that the Chinese market the renminbi,” according to Papadia. 

Another policymaker told POLITICO that while there is a broad consensus that liquidity lines should be made more widely available, the Governing Council had not yet hashed out the details.

Austrian National Bank Governor Martin Kocher told POLITICO in a recent interview that there has been “no deeper discussion” on the Council, adding that he sees no reason to promote euro liquidity lines actively.

“I’m not arguing that you should incentivize or create a demand. Rather, if there is demand, we should be prepared for it,” he said, acknowledging that “preparation is very important.”

He noted that erratic U.S. policies could force the euro “to take on a stronger role in the international sphere” — both as a reserve currency and in transactions. According to a Reuters report earlier this month, similar concerns among central banks worldwide have sparked a debate over creating an alternative to Federal Reserve funding backstops by pooling their own dollar reserves.

The ECB declined to comment for this article.

Risk aversion and other obstacles 

However, swap lines in particular don’t come without risks.

“The main risk is that the country would use a swap and then would not be able to return the drawn euros,” said Papadia. “And then you will be left with foreign currency you don’t really know what to do with.”

That is exactly the kind of trap some economists warn the U.S. is stumbling into with its $20 billion swap line to Argentina. “The United States doesn’t really want Argentina’s currency,” the Council on Foreign Relations’ Brad Setser wrote in a blog post. “It expects to be repaid in dollars, so it would be a massive failure if the swap was never unwound and the U.S. Treasury was left holding a slug of pesos.”

Such thinking, another central bank official said, will incline the ECB to focus first on reforming the EUREP lines, which have always been its preferred tool.

The trouble with that, however, is that EUREP use may be limited by a lack of safe assets denominated in euros to serve as collateral. Papadia noted that the Fed’s network of liquidity lines works because “the Fed has the U.S.  Treasury as a kind of partner in granting these swaps.” So long as Europe fails to create a joint debt instrument, this may put a natural cap on such lines. 

Even with a safe asset, focusing on liquidity lines first could be putting the cart before the horse, said Gianluca Benigno, professor of economics at the University of Lausanne and former head of the New York Fed’s international research department.

Europe’s diminishing geopolitical relevance means that the ECB is unlikely to see much demand — deliberately engineered or not — for its liquidity outside Europe without much broader changes, Benigno told POLITICO.

Liquidity lines can be used to advance your goals if you already have power — but they can’t create it. For that, he argued, Europe first needs a clear political vision for its role in the global economy, alongside a Capital Markets Union and the creation of a common European safe asset — issues that only politicians can address.