Here is how Italian banks and the Italian government are helping each other in pretending that they are more solvent than they really are: the banks buy government properties (everything from office buildings to military barracks) from the government, and pay for them with government bonds. The government then leases the buildings back from the banks, and the banks turn the properties into asset backed securities. The Italian government then slaps a “guarantee” on these securities, which makes them eligible for repo with the ECB. The banks then repo these ABS with the ECB and take the proceeds to buy more Italian government bonds – and back to step one. Simply put, this is a Ponzi scheme of gargantuan proportions.
on account of new capital regulations, European banks are almost forced to amass government securities – as government bonds have been declared to represent “risk-free” assets, which reveals an astounding degree of chutzpa on the part of European authorities in the wake of the sovereign debt crisis.
Bail-Ins, Dud Loans, Insolvent Zombies and Hidden Risks
Back in September last year, with the bank index still close to its highs of the year, we referred to European banks as “Insolvent Zombies”. This may have sounded a bit uncharitable at the time, but it is beginning to look like an ever more accurate description by the day. In December, we reminded readers that European banks are still sitting on €1 trillion in non-performing dud loans (see “Still Drowning in Bad Loans” for details).
In January we finally got around to write about the new European “bail-in” regulations, noting that these were bound to bring about unintended consequences.
The fact that CDS spreads have not yet moved even higher doesn’t seem a good reason not to be concerned. As far as Mr. Draghi’s abilities to keep the zombies staggering about are concerned, point taken – they are certainly formidable, as demonstrated by the Italian snow-job we have described above.
However, the ECB can certainly not jump in and “rescue” individual institutions that are in trouble – it can merely hope to keep up confidence in the debt-laden system as a whole. Banks that are beneath its notice due to not being regarded as “systemically relevant” are out of luck in any case – they are prime bail-in material, as Italian bank creditors have just found out to their chagrin.
Many of said creditors in Italy were small savers who were talked into buying subordinated bank bonds by their own house banks (the same thing has previously happened in Spain as well). Why have their banks talked them into taking such risks? The new bank regulations are in fact the main reason! European regulators have wittingly or unwittingly promoted the transfer of bank risk to widows and orphans – literally.
Apart from the astonishing €1 trillion in dud loans that remain on European bank balance sheets in spite of serial bail-outs and the erection of numerous “bad bank” structures into which such loans are “disappeared” so as not to mar the statistics any longer, one must keep in mind that economic confidence has been crumbling for almost two years.
All signs are that things are in fact in danger of getting out of hand, even if it seems to us as though it is time for at least a brief pause in the mini panic in risk assets we have observed in recent weeks. This is just a reminder that oil prices and the yuan are not the only things on the minds of market participants at the moment. As is seemingly always the case, when it rains, it pours.
German Finance Minister Wolfgang Schaeuble said he’s not worried about Deutsche Bank AG after the shares and bonds of Germany’s biggest lender took a battering over investor concern about capital and funding levels.
“No, I have no concerns about Deutsche Bank,” Schaeuble told Bloomberg Television in Paris after a meeting of French and German finance chiefs on Tuesday. He didn’t elaborate further.
Deutsche Bank co-Chief Executive Officer John Cryan told employees in a memo that the bank is “rock solid,” has a “strong” capital and risk position as he reassured the market of the bank’s ability to meet coupon obligations on its riskiest debt. Cryan has been seeking to boost capital buffers and profitability by cutting costs and eliminating thousands of jobs as volatile markets undermine revenue and outstanding regulatory probes raise the specter of continued legal charges.