* Unexpected move flags funding pinch in Greece
* Emergency liquidity limit increased for banks
* Austria’s Nowotny raises prospect of return to normal funding (Adds comments from Nowotny, central bank sources, detail)
By George Georgiopoulos and John O’Donnell
ATHENS/FRANKFURT, Feb 12 (Reuters) – European Central Bank policymakers approved extra emergency finance for Greek banks on Thursday, as a funding pinch tightened before a crunch euro zone meeting about the country’s future.
The unexpected move by policymakers from across the euro zone highlighted how ebbing confidence in Greece’s new government, which all but tore up a reform-for-aid programme, is sapping banks’ sources of finance, such as deposits.
Responding to this, the ECB further raised the cap on Emergency Liquidity Assistance (ELA) for Greek banks by about 5 billion euros ($5.7 billion) to 65 billion euros, Greek central bank and government officials told Reuters.
Offering a carrot to Greece’s radical leftist government, Austrian central bank chief Ewald Nowotny signalled that if it signed up to a reform programme, the ECB could replace this emergency funding with cheaper direct ECB finance.
“If there is the new agreement then I think we will be able to return to the old system, because the old system was under the condition of having an active programme in place,” Nowotny, who also sits on the ECB’s Governing Council, told Reuters.
The Governing Council next meets on Feb. 18, when it could change its stance on ELA for Greek banks if it becomes clear a new bailout deal is within reach. But it could scale back or halt the funding, should Athens remain at loggerheads with its euro zone peers.
Talks among euro zone finance ministers on Wednesday failed to produce an agreement on extending Greece’s bailout programme, which expires at the end of this month. Further talks will be held Monday. An agreement would win extra time to negotiate a new programme withGreece.
Sassan Ghahramani, CEO of New York-based SGH Macro Advisors, which advises hedge funds, said the ECB move to increase the ELA for Greek banks was “a defensive move and it is awkward because they are doing this as negotiations are not progressing”.
“The ECB does not want to be the institution that pulls the plug (on Greece) and they certainly want to be contributing towards a stable environment. But they have limitations on their mandate and the Greeks need to understand this,” he added.
For now, Greek banks are reliant on ELA by the country’s central bank. How long that can last is unclear.
“The question now is if there is political movement and whether Greece comes under a programme,” said one person familiar with the matter. “ELA is for solvent banks and their solvency is closely linked to the solvency of the state.”
The ECB declined to comment.
ELA provision is critical for Greece’s banks, and in turn for the country, as the ECB cancelled its acceptance of Greek bonds in return for funding last week.
Although emergency liquidity is granted by the national central bank, the ECB has the final say and could, theoretically, stop it at short notice.
The ECB would be loath to cancel the assistance, however, because that could trigger the financial collapse of Greece. Nowotny indicated that the ECB would be reluctant to do so, regardless of whether a deal with Greece was struck.
But the ECB must also take care to respect the rules governing ELA: that it be for a short period of time and given only to solvent banks.
The head of Germany’s influential Bundesbank, in contrast to Nowotny, has consistently struck a harder tone.
Jens Weidmann said on Thursday that support can be given to Greece only if it complies with agreements made, dismissing the idea of debt relief for Athens as “counter-productive”. ($1 = 0.8783 euros) (Reporting By John O’Donnell; additional reporting by Renee Maltezou and Jan Lopatka in Prague; Editing by Paul Carrel, Larry King and David Stamp)