Global central banks prepare swap facilities for Brexit vote

FRANKFURT (Reuters) - Central banks around the globe are preparing financial backstops to mitigate market turmoil in case Britons vote next week to leave the European Union, hoping to buffer the real economy from any short-term impact.

The European flag flies outside of the La Canada shopping centre in Marbella, southern Spain January 23, 2013. REUTERS/Jon Nazca

Operating with so-called swap lines, the world’s biggest central banks stand ready to temporarily exchange currencies in potentially unlimited quantities if financial market disruption leaves banks and exporters short of foreign currency.

Policymakers fear that a British vote on June 23 to leave the 28-nation EU, known as ‘Brexit’, could trigger an exodus of cash from Britain, paralyzing currency markets and weighing immediately on growth if firms cannot gain access to foreign currency needed for their day to day business.

Indeed, the European Central Bank would publicly pledge to backstop financial markets in tandem with the Bank of England should Britain vote to leave the EU, officials with knowledge of the matter told Reuters.

First used after the 9/11 attacks in 2001, swap lines were in big demand during the 2008-09 global financial crisis, when banks, excessively leveraged in foreign currency, lost their market access.

Since then, the U.S. Federal Reserve, the ECB, the Bank of Japan, the Bank of England, the Swiss National Bank and the Bank of Canada have established permanent swap lines with many smaller central banks also concluding bilateral deals to tap into a global cash network.

Under the deal, a central bank can access currency directly from an overseas central bank at the prevailing exchange rate but at a somewhat higher interest rate than during normal market operations.

The receiving central bank then distributes the currency to the requesting commercial bank, which also agrees to return the cash at maturity, which can be anywhere between overnight and three months.

The relatively high interest rates -- 0.87 percent for dollars from the Fed to the ECB, for example -- is intended to keep the facility expensive enough so banks would only use it in case of real difficulty.

The permanent ad hoc swap lines, established after the global financial crisis, are rarely used. The facility established between the ECB and the Bank of England has never actually been used other than for testing.

Still, many banks make regular use of the Fed’s 7-day swap instrument, though volumes tend to be small with bids usually coming from just a few commercial banks, suggesting little market strain.

Last week the Fed had no swaps with foreign central banks while the previous week the figure was $801 million, with most of that coming from a single bank in the euro zone.

At its height in late 2008 and early 2009, dollar swaps between the Fed and foreign central banks exceeded 500 billion dollars, with most positions eliminated by the end of 2009 as markets returned to health.

Reporting by Balazs Koranyi; Editing by Gareth Jones