When discussing European sovereign bond purchases it is never polite to say the ECB "monetizes" when talking to "very serious people" - after all they "sterilize", or in other words, don't see an actual balance sheet expansion, as they offload the entire cumulative balance (which as of this week was €194.5 billion) onto other financial institutions. In this way, the bank supposedly does not take on interest rate risk, which in a feedback loop, is the cause and event of such modestly unpleasant monetary expansion episodes as the Weimar republic. What few discuss, however, is just where the banks get the money to actually buy bonds from the ECB. Well, as it turns out, all the money used for sterilization comes from, you guessed it, the ECB, in what is one massive several hundred billion circle jerk. In essence what the ECB does, by pretending to not monetize and pretending to sterilize, is taking on not only interest rate risk one level removed, but also bank solvency and liquidity risk! In turn, this makes the central bank even more undercapitalized in practice than it is (and at 50+ leverage, it is already pretty, pretty undercapitalized), as once the banking dominos start crumbling, it will be the ECB that is left on the hook... and thus the Fed and the US taxpayer. So perhaps while Germany is complaining every single day about the possibility of outright money printing by the ECB, it will be wise to ask itself: who is giving Europe's insolvent banks, which just borrowed a record amount of short-term cash from the ECB to be recycled precisely into such indirect monetization, their cash?

Below is the official announcement from today on the full sterilization procedure in which €194.5 billion in sovereign bonds had to be bid up by European banks, which submitted Indications of Interest for €233 billion.

But where did the €233 billion come from? Why from the ECB of course, or specifically from its weekly Main Refinancing Operation, which saw the ECB hand out €247.2 billion to banks at a rate of 1.25%, the same as the max rate on the Tender operation above. Just enough to cover the full monetization amount, and have a little cash left for pocket money.



Translation: one big circle jerk.

And for the easily offended set, here is Reuters with a slightly more PC explanation: