European banks face an entirely new wave of losses in
coming months not yet calculated in any government bank rescue aid
to date. Unlike the losses of US banks which derive initially from
their exposures to low-quality sub-prime real estate and other
securitized lending, the problems of western European banks, most
especially in Austria, Sweden and perhaps Switzerland arise from
the massive volumes of loans they made during the 2002-2007 period
of extreme low international interest rates to clients in eastern
European countries.
The problems in Eastern Europe which are just now emerging
with full force are, if you will, an indirect consequence of the
libertine monetary policies of the Greenspan Fed from 2002 until
2006, the period where Wall Street’s asset backed securitization
Ponzi Scheme took off.
The riskiness of these eastern European loans is now
coming to light as the global economic recession in both east and
west Europe is forcing western banks to pull back, refusing to
renew loans or ‘rollover’ the credits, leaving thousands of
borrowers with unpayable loan debts. The dimension of the eastern
European emerging loan crisis pales anything yet realized. It will
force a radical new look at the entire question of bank
nationalizations in coming weeks regardless what nice hopes
politicians in any party entertain.
Moody’s Rating Service has just announced it ‘might’
downgrade a number of western European banks with large exposures
to eastern Europe. On the report, the Euro fell to 2 and a half
month lows against the dollar.
The Moodys report mentioned especially banks in eastern
Europe owned by western European banks including specifically
Raiffeisen Zenetralbank Oesterreich and Sweden’s Swedbank. The
public Moody’s warning will now force western banks with
subsidiaries in eastern Europe to dramatically tighten lending
conditions in the east at just the time the opposite is needed to
keep economic growth from collapsing and thereby setting off
chair-reaction loan defaults. The western banks are caught in a
devil’s circle.
According to my well-informed City of London sources, the
new concerns over bank exposures to eastern Europe will define the
next wave of the global financial crisis, one they believe could be
even more devastating than the US sub-prime securitization collapse
which triggered the entire crisis of
confidence.
As a result of the Moody’s warning, west European banks
will now likely be selective in supporting their subsidiaries.
Moody’s report noted that ‘banks in countries that are associated
with higher systemic risks might face reduced support.’ Western
European governments may also establish rules to ensure banks
receiving state support are forbidden to aid foreign subsidiaries.
This is already the case with Greek banks and the Greek Government.
The result is to make a bad situation far worse.
The size of risks are
staggering
The amount of loans potentially at risk involve mostly
Italian, Austrian, Swiss, Swedish and it is believed German banks.
Once the countries of the former Soviet Union and Warsaw Pact
declared independence in the early 1990’s west European banks
rushed in to buy on the cheap the major banks in most of the newly
independent east countries. As US interest rate cuts after the
stock crisis in 2002 pushed interest rates
around the world to new lows, easy credit led to higher risk
lending across borders in foreign currencies. In countries such as
Hungary Swiss and Austrian banks promoted home mortgage loans
denominated in Swiss Franc where interest rates were significantly
lower. The only risk at the time was if the Hungarian currency were
to devalue, forcing homeowners in Hungary to repay sometimes double
the monthly amount in Swiss Francs. That is what has happened over
the past 18 months as western banks and funds have dramatically
reduced their speculative investments in eastern countries to
repatriate capital back home where the mother banks had serious
problems caused by the US banking catastrophe. In the case of the
Polish Zloty, the currency has dropped in recent months by 50%. The
volume of mortgages existing in foreign currencies in Poland is not
known but London estimates are that it could be huge.
In the case of Austrian banks, the country faces a rerun
of the 1931 Vienna Creditanstalt crisis which in chain-reaction
spread to the German banks and brought Continental Europe into the
economic crisis of 1931-33. At the recent EU Finance Ministers’
meeting in Brussels, Austrian Finance Minister Josef Pröll
reportedly pleaded with his colleagues to come up with a €150
billion rescue package for the banks in eastern Europe. Austrian
banks alone have lent €230 billion there, equivalent to 70% of
Austria’s GDP. Austria’s largest bank, Bank Austria, which in turn
is owned by Italy’s Unicredito along with the German
HypoVereinsbank, faces what the Vienna press calls a ‘monetary
Stalingrad’ over its loan exposure in the east. In a botter
historic irony, Bank Austria bought the Vienna Creditanstalt in
recent years in its wave of mergers.
According to estimates published in the Vienna financial
press, were only 10% of the Austrian loans in the east to default
in coming months, it ‘would lead to the collapse of the Austrian
financial system.’ The EU’s European Bank for Reconstruction and
Development (EBRD) in London estimates that bad debts in the east
will exceed 10% and ‘may reach 20%.’
German Finance Minister Peer Steinbrück reportedly flatly
rejected any EU rescue funds for the east, claiming it was not
Germany’s problem. He may soon regret that as the crisis spreads to
German banks and results in far greater costs to German taxpayers.
One of the most striking aspects of the present crisis which first
erupted in summer of 2007 is the increasingly evident incompetence
of leading finance ministers and central bankers from Washington to
Brussels to Paris and Frankfurt and Berlin to deal resolutely with
the crisis.
The London office of US investment bank, Morgan Stanley
has issued a report estimating the total of western European bank
lending to the east. According to the report Eastern Europe has
borrowed a total of more than $1.7 TRILLION abroad from mainly west
European banks. Much of that has been short-term borrowing of less
than a year. In 2009 eastern countries must repay or roll-over
(renew) some $400 billion, fully 33% of the region’s total GDP. As
global recession deepens the chances of that are fading by the day.
Now western banks are refusing to roll-over such loans, under
political pressure and financial pressure back home. The credit
window in the east, only two years ago the source of booming
profits for the west European banks, have now slammed
shut.
Even Russia which a year ago had more than $600 billion
foreign exchange reserves, is in a difficult situation. Russian
large companies must repay or roll-over $500 billion this year.
Russia has bled 36pc of its foreign reserves since August defending
the rouble.
In Poland, 60% of all mortgages are in Swiss francs. The
Polish zloty has just fallen in half against the Swiss franc.
Hungary, the Balkans, the Baltics, and Ukraine are all suffering
variants of this same story. As an act of collective folly – by
lenders and borrowers – it matches America's sub-prime debacle.
This crisis, for European banks comes atop their losses in US real
estate securities. In is the next wave of the crisis that is about
to hit. Almost all East bloc debts are owed to West Europe,
especially Austrian, Swedish, Greek, Italian, and Belgian banks.
Europeans account for an astonishing 74% of the entire $4.9
trillion portfolio of loans to emerging markets. They are five
times more exposed to this latest crisis than American or Japanese
banks, and they are 50pc more leveraged according to the IMF.
Whether it takes months, or just weeks, Europe's financial
system now faces a major test and the situation is complicated by
the fact that when the rules of the European Central Bank were
finalized in the late 1990’s, governments could not agree to
surrender total national central banking powers to the new ECB. As
a result, in this first test of the ECB in a systemic crisis, the
bank is unable to act in the same manner as say the Federal Reserve
and fiull the role of lender of last resort or to flood the markets
with emergency stimulus.
By some estimates the European Central Bank already needs
to cut rates to zero and then purchase bonds and Pfandbriefe on a
huge scale. It is constrained by geopolitics – a German-Dutch veto
– and the Maastricht Treaty. The EBRD estimates that eastern Europe
needs at least €400bn in help to cover loans and prop up the credit
system.
Europe's governments are making matters
worse. Some are pressuring their banks to pull back, undercutting
subsidiaries in East Europe. Athens has ordered Greek banks to pull
out of the Balkans. The sums needed are beyond the limits of the
IMF, which has already bailed out Hungary, Ukraine, Latvia,
Belarus, Iceland, and Pakistan – and Turkey next – and is fast
exhausting its own €155bn reserve, forcing it to sell its gold
reserves to raise cash.
The recent IMF $16bn rescue of Ukraine has unravelled. The
country – facing a 12pc contraction in GDP after the collapse of
steel prices – is going towards default, leaving Unicredit,
Raffeisen and ING facing disaster. Latvia's central bank governor
has declared his economy "clinically dead" after it shrank 10.5pc
in the fourth quarter. Protesters have smashed the treasury and
stormed parliament.
Perhaps most alarming is that the EU institutions don't
have any framework for dealing with this. The day they decide not
to save one of these one countries will be the trigger for a
massive crisis with contagion spreading into the EU.
Clear at present is
that for small-minded political reasons, Berlin is not going to
rescue Ireland, Spain, Greece and Portugal as the collapse of their
credit bubbles leads to rising defaults, or rescue Italy by
accepting plans for EU ‘union bonds’ should the debt markets
boycott Italy's exploding public debt, hitting 112% of GDP next
year, just revised up from 101%.
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