World on cusp of liquidity retrenchment : FSB boss

Tue Nov 8, 2011 11:39am EST
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By Louise Egan and Naomi Tajitsu

LONDON (Reuters) - LONDON Nov 8 (Reuters) - The new global financial regulatory policeman, Mark Carney, warned on Tuesday the world was "on the cusp of another retrenchment" in liquidity and urged careful management of European bank recapitalization.

In his first speech as head of the Financial Stability Board, the body responsible for implementing reforms to financial regulations, Carney, who also heads the Bank of Canada, urged European banks not to rely solely on asset sales to meet new international capital requirements.

The combination of bold moves by the European Central Bank and four trillion euros in unencumbered collateral at European banks should ensure that there is no European equivalent of a Lehman Brothers collapse, he said.

But the withdrawal of global liquidity as European banks deleverage needs to be well managed in order to limit the effects on the economy, said Carney. He predicted "at least" a brief recession in the euro area.

"As global liquidity recedes, volatility is increasing and activity falling. The effect on the real economy will soon be felt," he said in the prepared text of a speech he was delivering in London.

He said the severity of the downturn will depend in part on how European banks raise new capital. Under new rules they are required to bring the key measure of core capital, known as Tier 1, to 9 percent by next June.

"One way European authorities could reduce these spillovers is to require European banks to meet at least part of their (new capital) requirements by raising private capital, including high-trigger contingent capital."

Contingent capital normally refers to bonds held by banks that they can convert into equity if they are about to fail. The "high trigger" version is an instrument that can raise equity before that point is reached.   Continued...