US money market funds have sharply cut their exposure to banks in the euro zone over the past few weeks and reduced the availability of credit, even in stronger countries such as France.
The money market funds, historically crucial providers of short term financing to European banks, have withdrawn from all but extremely short-term lending as concerns about sovereign debt have mounted.
While the agreement of a second bail-out deal for Greece might ease nerves, the funds are also stockpiling cash in case US politicians fail to raise the federal debt ceiling, prompting withdrawals from investors.
One French financier said: “Up to mid-June, getting three, six or nine-month money was not that difficult.
“But now, getting one-week or one-month money is about all we can manage”.
People on both sides of financing French banks say the cost of debt has not changed substantially but rather the availability has diminished and money market funds preferring to lend overnight.
Money market lending to Spanish and Italian banks has virtually ceased in the past month as sovereign debt worries have spread to Europe’s larger economies, reported the head of one money market business.
At the end of June, banks in the two countries had accounted for 0.8 percent of the $1,570 billion assets in prime money market funds, calculates Fitch, down from 6.1 percent in late 2009.
The 10 largest US prime money market funds reduced their total exposure to European banks by 8.7 percent on a dollar basis in June, according to the rating agency.
Owners of the money market funds, chastened by a rush of withdrawals during the financial crisis in 2008, have adopted an abundance of caution.
Robert Brown, head of Fidelity’s money market business, says: “The risk of the redemption in the market place causes you to position your portfolio accordingly”.
He insists that sovereign losses would only be an earnings issue for French banks, not a solvency issue, but adds “it’s one thing to have a fundamental credit opinion, but you can’t ignore the volatility in the market place”.
European banks have also acted to widen their sources of dollar funding and improve capital and liquidity positions since the financial crisis.
Cash assets of foreign institutions on deposit at the Federal Reserve were $1,028 billion on July 6, up from $407 billion at the end of January.
John Donohue, chief investment officer for J.P. Morgan’s money market business, said: “We remain comfortable with the large, well-capitalised and systemically important European banks on our credit approved list”.
However, the bank had also reduced the amount of time it would lend to European banks and had increased the amount of cash on hand in response to “uncertainties emanating from both Europe and the US debt ceiling debate”, he said.