Eurozone: Central Bank Swap to United Kingdom, 2019

On March 5, 2019, the ECB and the BoE activated a standing swap line pursuant to which the ECB would provide to the BoE euros in exchange for pounds sterling, which would allow the BoE to lend euros to UK banks, building societies—member-funded lending institutions—and broker-dealers on a weekly basis through a new euro repo liquidity facility (BoE n.d.; BoE 2019a). UK banks included all banks that were part of the Sterling Monetary Framework; hence, banks with subsidiaries and branches in the UK were also eligible to borrow under the LiFE facility. Although the press release made an explicit reference to banks and building societies only, we know from the eligibility criteria of the BoE that this included broker-dealers (BoE 2021a). The ECB would receive pounds sterling from the BoE in exchange for euros. The activation of this swap line was meant to be a precautionary measure by the BoE to provide additional flexibility in its provision of liquidity to UK financial institutions ahead of Brexit (ECB 2019).

The standing swap line was part of a network of bilateral swap arrangements among six major central banks—the BoC, BoE, BoJ, ECB, Fed, and SNB—that were announced in October 2013 (Fed 2013).

While implementing LiFE backed by the euro swap line, the BoE took other measures to address the possible impacts of Brexit. It created a similar weekly US dollar repo facility, based on its standing swap arrangement with the Fed, and it began to provide weekly sterling operations through indexed long-term repos, or ILTRs, starting February 26, 2019 (BoE 2019a).

The ECB-BoE swap line was activated under a bilateral arrangement between the ECB and BoE. The arrangement was part of a network of bilateral swap arrangements among six central banks. These arrangements allowed “for the provision of liquidity in each jurisdiction in any of the five currencies foreign to that jurisdiction, should the two central banks in a particular bilateral swap arrangement judge that market conditions warrant such action in one of their currencies” (Fed 2013).

The ECB and BoE had created a temporary bilateral swap line on December 17, 2010 (ECB 2010). At that time, the purpose of the swap line was specifically to allow the BoE to provide pounds sterling to the ECB that the ECB could then provide to the Central Bank of Ireland, which was facing a bank crisis and a sovereign debt crisis (Wiggins 2023). This swap line was set to expire on September 30, 2011, but the two parties extended it three times, and it was to expire on September 30, 2014 (ECB 2010; ECB 2013). On October 31, 2013, six major central banks (the BoC, BoE, BoJ, ECB, Fed, and SNB) announced the conversion of temporary bilateral swap lines into standing arrangements (Fed 2013).

The Governing Council of the ECB has the authority to enter into a foreign currency swap agreement (ECB 2021a).

It is well established that the BoE has the authority to engage in foreign currency swaps. The legal basis for the bank’s liquidity insurance facilities is provided by the BoE Act (1998), the Financial Services and Markets Act (2000), the Banking Act (2009), and the Financial Services Act (2012). This legislation is supported with a system of memoranda of understanding (MOUs) and concordats, as well as by the regular exchange of letters between the chancellor of the Exchequer and the governor of the BoE (IMF 2016). 

The BoE’s Market Operations Guide describes the governance of liquidity programs that execute its monetary and financial stability objectives (BoE 2021a). That guide describes key terms for short-term, non-sterling—that is, foreign currency—liquidity facilities that the BoE funds through swaps with foreign central banks.

The Governing Council, the ECB’s decision-making body, makes decisions regarding whether to enter into a foreign currency swap agreement (ECB 2021a). The ECB reported on the swap line in its 2019 annual report (ECB 2020).

Relevant MOUs state that the FPC “will approve the scope and principles which determine the design of the Bank’s liquidity insurance facilities and their resultant ability to reduce systemic risk” (BoE 2017; BoE 2023). The Monetary Policy Committee has the overall responsibility for formulating monetary policy and achieving its mandate to maintain price stability. Accordingly, it has decision-making authority over all tools deployed to help it achieve its mandate, including foreign exchange intervention, but takes into consideration the input from the FPC regarding liquidity principles (BoE 2018).

The FPC said in the minutes of its February 26, 2019, meeting that it “welcomed” the initiation of the LiFE program (BoE 2019d, 14).

Although our research has not been able to determine which body of the ECB made the management decisions regarding the ongoing operation of the swap in regards to the LiFE facility on a day-to-day basis, the reciprocal swap arrangements require the ECB to either provide euros in exchange for the relevant foreign currency accepted as collateral or provide euro as collateral in exchange for the relevant foreign currency borrowed, according to the requirement of the situation (ECB 2022).

The reciprocal swap arrangement between the ECB and the BOE requires the ECB to deposit euros into the “ECB Account” maintained in the books of the BOE in exchange for pounds sterling deposited by the BOE into the “BOE Account” maintained in the books of the ECB. The swap agreement also requires each party to update the other party with a statement of account pertaining to each movement on the other party’s account with respect to this transaction (ECB and BoE 2014).

The ECB issued a press release announcing the activation of the swap line with the BoE on March 5, 2019. The stated goal was to provide additional flexibility in BoE’s provision of liquidity insurance, supporting the functioning of markets that serve households and businesses. The ECB’s press release stated that the “ECB will continue to work closely with the Bank of England to monitor market conditions carefully and keep its operations under review” (ECB 2019).

The ECB also stated that it “stood by” to provide pounds sterling to eurozone banks if needed, but it did not create a similar liquidity facility to provide pounds to eurozone banks (ECB 2019). Comments by Mario Draghi, then ECB president, suggest that the exclusion of central counterparties (CCPs) (which are financial market infrastructures that seek to minimize counterparty credit risk in transactions by acting as intermediaries between a buyer and a seller of an original trade) was important to the ECB. In a letter dated June 14, 2019, he wrote: “It should be emphasised that these operations are only available to UK banks, hence possible emergency liquidity provision to UK CCPs is not covered by the precautionary activation of the swap line” (Draghi 2019; Rehlon and Nixon 2013).

The BoE announced the activation on the same date as the ECB and at the same time announced that it would make weekly euro lending operations available to eligible UK banks and building societies that were members of the Sterling Monetary Framework through LiFE (BoE 2019a).

In this regard, the announcements served to communicate (i) the ECB’s readiness to provide euros under the swap if needed, (ii) readiness and availability to provide euros under the BoE’s LiFE facility to UK entities, and (iii) the ECB’s willingness to provide pounds sterling liquidity to eurozone banks if needed (ECB 2019).

The BoE also coordinated with the ECB to suspend its LiFE facility on October 1, 2021 (BoE 2021b).

The ECB-BoE swap line is reciprocal, meaning that either of these central banks are eligible to draw the currency of the other (ECB and BoE 2014). In this case, the intent of the swap line activation was to enable the BoE to draw euros in exchange for pounds sterling from the ECB (BoE 2019a).

The ECB and BoE activated their standing swap arrangement explicitly to provide euros to UK banks, building societies, and broker-dealers that were members of the Sterling Monetary Framework through the BoE’s LiFE facility, where needed (BoE 2019a; ECB 2022). The BoE published terms and conditions regarding the eligibility for downstream lending of funds drawn from the facility in a Market Notice (BoE 2019b).

The swap agreement permitted the BoE to request from the ECB an unlimited amount of euros in exchange for pounds sterling (ECB 2022). There was no maximum bid size for UK financial institutions seeking to borrow through LiFE; the minimum bid amount was EUR 5 million (USD 4.4 million)^FNPer Yahoo Finance, USD 1 = EUR 0.88 on March 5, 2019. (BoE 2019b). The LiFE facility permitted full allotment of requested amounts (BoE n.d.). See Figure 1 for more information.

The BoE stated in its press release that weekly auctions under LiFE would start on March 13, 2019, and would continue to run until further notice (BoE 2019a).

The swap agreement states that in the event of a nonrepayment by the BoE, the unpaid amount of the swap transaction along with any fee pertaining to the shortfall could be rolled over by the ECB into a new overnight swap transaction. Notwithstanding the rollover, the swap agreement permits the ECB to set off any obligations it has against the BoE pertaining to such swap transactions (ECB and BoE 2014).

Activating the swap line enabled the BoE to lend euros to UK banks and building societies through a new weekly euro repo facility called the Liquidity Facility in Euros (BoE 2019a; ECB 2019). Borrowers drew on the line for only the minimum amount of EUR 5 million (USD 4.4 million) on a handful of occasions, for test purposes; the cumulative value of those draws was EUR 75 million (USD 66 million) (BoE n.d.). (See Figure 1.)

According to the swap agreement between the ECB and the BoE dated January 16, 2014, the swap transactions have a maximum duration of either 88 days or a duration mutually decided upon by both the parties (ECB and BoE 2014). The LiFE transactions had a maturity of one week (BoE 2019a, 1).

The swap agreement between the ECB and the BoE dated January 16, 2014, states that the swap transactions are to be executed at the spot exchange rate that prevails in the market. Under this agreement, the BoE is required to pay a fee equivalent to the amount of the euros it draws from the ECB multiplied by a rate known as the ECB rate at the initiation of the swap transaction. The fee is to be calculated on a 360-day basis from the day the swap transaction takes place until the maturity date (which was excluded) (ECB and BoE 2014).

UK financial institutions seeking to borrow through LiFE would submit bids including the interest rate and the amount of funds they wished to borrow, as described in the Market Notice (BoE 2019b). Although our research has not uncovered the exact interest rates involved, the LiFE transactions followed full allotment at fixed rates (BoE n.d.). Eligible financial institutions could borrow against the full range of collateral eligible in the BoE’s Sterling Monetary Framework, based on the BoE’s usual haircuts. Haircut add-ons were applied to securities that were non-euro denominated to allow for currency volatility (BoE 2019b).

The ECB received pounds sterling in exchange for euros lent to the BoE (ECB 2019). The ECB’s 2020 annual report states that the risks of the swap lines were “considered to be mitigated to some extent by the payments received” (ECB 2021b, 73).

Our research has not discovered if other restrictions were put in place.

Our research has not discovered any alternative strategies pursued by the ECB to address demand for euros in the event of a disorderly Brexit in 2019.

The BoE suspended its downstream euro lending program, LiFE, on October 1, 2021, after running its last operation on September 29, 2021. This decision to suspend was taken on account of the improvements witnessed in the “funding market conditions” (BoE 2021b). The swap line remains in effect (Fed 2013). The press release from the BoE announcing the suspension of the LiFE facility stated that:

With the suspension of LiFE, the BoE and ECB effectively deactivated the currency swap line. The BoE would need to activate it again at potentially different terms to restart the facility.