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Wait a minute, what the heck is an LTRO anyway?

For all you forex noobs out there, long-term refinancing operation (LTRO) is a tool used by the ECB to provide liquidity to European banks.

Basically, the central bank is offering these banks virtually unlimited loans at a cheap price so they can pay for their maturing debt and be able to lend to struggling governments and consumers.

The ECB first launched its program last December, when 523 banks borrowed around 489.2 billion EUR. This time around, we saw 800 banks borrow a total of 529.5 billion EUR with an interest rate of 1%. Talk about a solid bargain!

Though the 529.5 billion EUR number is slightly higher than December’s 489.2 billion EUR figure, markets took the report in stride as it’s still within analysts’ estimates.

If you recall, 750 billion EUR was the line in the sand, as market geeks believe that anything above that figure would signal significant weakness in European banks.

Don’t be fooled by the numbers though. More than a few short and medium-term ECB loans are maturing this week, which would make 310 billion EUR the actual amount of liquidity available for LTRO part 2.

This equates to a total of 520 billion EUR of liquidity available for the entire program.

Judging from EUR/USD’s initial reaction to the report, it looks like markets aren’t too impressed with the latest numbers. Heck, EUR/USD didn’t even test its intraday high before it fell below the 1.3350 minor psychological handle!

Digging a little deeper into the report, it seems that many analysts were justified in their initial concerns that the first round of the LTRO program wouldn’t be effective.

For one thing, many of the banks that participated back in December used the new funds they received to pay off maturing loans or parked their money in other banks in order so they could make use of the ultra-low rate and lock-in guaranteed profits.

This was exactly the opposite of what many politicians were hoping for, as they were betting that the LTRO program would lead to loans to actual consumers.

There is hope though, that the second round of LTRO will be much more effective in flooding the market with liquidity.

According to one prominent French banker, the first round of LTRO funding was used to tame all the debt that European banks had accumulated. Now that the debt has been trimmed down, banks can focus on actively pumping the economy with more cash.

Also take note that the number of banks who participated in the program rose by roughly 50%, from 523 banks to 800 banks. Where the heck did these banks sprout out from?

Most of the new banks who decided to make use of the LTRO are actually small- to medium-sized banks. Because these banks tend to focus on lending to small companies, many are hopeful that we’ll see a more pronounced impact on the economy.

On the flip side, the fact that more banks had to borrow funds could mean that the European banking system is in deeper trouble than initially believed.

For now, we can only hope that banks will do their part in making sure the fresh influx of cash reaches the people it is intended to help.

If it doesn’t work, it will only perpetuate the idea that the ECB is really becoming a lender of last resort, which is something some European officials don’t want to happen.

In the end, only time will tell whether the LTRO is truly effective or not.