As a complete non-expert trying to improve his knowledge of what’s going on, im genuinely baffled as to why so many European (continental) banks are going bust, while no Irish bank has yet gone bust, can any of the more knowledgeable people here explain it. i thought the whole point of all the mayhem in the past year was that it was an anglo-saxon thing (counting Irland as anglo-saxon) and that countries like Germany and Holland and Belgium had avoided it all. Some German minister said as much last week. Now banks all over Europe are going bust, while none have gone bust here. Did the European countries have their Morgan Kelly equivlints warning that their banks were likely to run into trouble or has there banks problems come as a surprise. And yet their economies seem to be growing much faster than for a long time and not anywhere near recession. So why are their banks toppling? I’m mystified. Are the European banks going bust because of bad lending and econimc conditions within there own coutries or is it simply because of bad lending to America? If its bad lending to America, did Irish banks also lend a lot to America and, if so, what’s become of it? If European countries lend to Americans, then the Americans can’t pay it back and European banks go bust as a result, do they have any comback against the US govrnment? If financial experts had been asked a year ago whether it was likely German and Dutch/Belgian banks would go bust before any in Ireland, would they have been likely to predict that it would be German/Dutch/Belgian ones? What are the chances Ireland can go through this credit crunch without any bank going bust? 1%, 10%, 50%?
Hey Bert, all good questions.
The problem with the continental banks, IMO, is that they are even more leveraged than American banks (much like our Irish banks). Depfa, for example, has near 200 bn in assets on a shareholders equity of 5 bn. That’s a 40:1 ratio, so a loss of 2.5% wipes them out. Many of the other banks are the same. Note that Depfa was only acquired by Hypo recently and, I believe, herein lies a problem and a similarity with the US. US banks went on an orgy of takeovers of subprime originators. They paid top dollar at the top of the market for junk making machines. In the US and in Europe also, there was a huge increase in the amount of structured finance and off balance sheet lending based on quite ropey foundations. Many European banks went on a spree of buying structured finance companies or setting up off-balance sheet vehicles that are not regulated the way that banks are.
In a way, the backwardness of Irish banking management and the profits of the housing boom meant that Irish banks didn’t need to look to offset low ECB rates chasing yield, so didn’t need to go deeply into structured finance to make lots of money. The same appears to be true in Spain, the difference with Ireland being that the Spanish Central Bank forced Spanish banks to be more prudent by demanding they keep more capital in reserve. As a result, despite the fact that Spanish banks are exposed to a property slump, there is still some international confidence in their lending standards.
While its true that the average person in Germany or France is significantly less leveraged than a UK/Irl person, and is very likely to be unaffected by this crisis, the same cannot be said for some of their banks
A big problem for institutions in Germany etc over the boom years has been the fact that they have found it much harder to get people to borrow in their homelands. Germans/French, even Japanese are addicted to saving, not borrowing. Its not unusual to find people who earn 100k a year in Berlin living in a nice home they paid 150k for. Irish people would consider that nuts…
In any case, alot of pan-euro institutions, under pressure for returns akin to their Anglo-Saxon peers over the years have been happily lending much of their large homegrown deposit base to the more leverage-happy people / developers etc in the Anglo-Saxon world
So, they may be German banks…but some are now massively exposed to Anglo-Saxon property prices.
The average German consumer may be smart, but that hasnt stooped some idiots running their banks to do very stupid things…
To date, some of the biggest casualties of this mess have come from Europe…UBS, being an obvious example, altough thankfully for them they were large enough to survive this.
Also, as Yoga states above…its almost impossible to come into a cycle where the World is deleveraging, with lev of 40-1 and expect to survive. Even if you were investing in 5 yr govt bonds, that kind of leverage can quickly wipe you out on a small pricing blip
All of the economies of the world (particularly the Western economies)are highly interconnected which is why we hear some much of the term “Global Economy”. The main reasons for the present problems are (simplified):
- Interest rates were too low and this fuelled a huge asset bubble, mainly in what are termed “Anglo Saxon economies”.
- Banks in the US, the UK and Ireland relaxed their lending criteria too much and lent money to people who could not afford to pay it back (fuelled by short-termism linked to bonuses)…this together with the low interest rates helped create the asset (housing) bubble.
- The American banks packaged these dodgy mortgages up with other mortgages and sold them on. Some of these were bought by European banks without realising how “toxic” they were.
- As property prices began to fall in the US the foreign banks began to realise that many these mortgages that they had bought were worthless and will have to be written off, thereby reducing their reserves.
5)When the banks reserves reduce it restricts the amount of lending they can do. This reduces the amount of money available in the economies.
7)As the banks are not aware of how much of these bad mortgages are held by other banks, they are afraid to lend to each other thereby reducing liquidity and confidence.
8)The Basel 2 Capital Adequacy Directive of the EU means that banks are monitored more closely now than in the past. In the past they may have been able to trade out of a difficult liquidity situation whereas, faced with the same situation now, they are more likely to be declared insolvent.
- When one bank becomes insolvent, it creates panic amoungst the public, reduces confidence in the banking system and can cause a self- perpetuating domino effect brining down other banks.
In order to understand why mainland European banks got into difficulty you have to first understand their local economies. German banks were operating in very low growth markets. Therefore, in order to grow business they were forced into greater and greater leveraged and more exotic tranch financing of US loan books. The situation now seems to be that on-one understands what the packed instruments they bought actually are. That’s the guts of the problem. Some of what they bought is now worthless due to high leverage and drop in value due to bad debts. The sub prime problem.
This wasn’t a problem in Ireland as the Irish banks were way to busy lending to Property Developers, Speculators, and the odd Buyer to get involved in these kind of exotic instruments. The Irish banks are in trouble now with bad debts and loans secured on greatly over valued assets. However, it’s a simple problem to examine and fix in comparison to those of European peers.
This is how it was explained to me anyway.
Yes but Depfa is not a sub-prime originator.
But Depfa loaned very long and borrowed very short. It’s problems are more similar to Northern Rock. It does, however, have exposure to US packaged student loans and Muni Bonds to the tune of some 12 bn (if memory serves me). If these were marked to market they alone would probably be enough to wipe Depfa shareholder’s capital out.
Hypo Real Estate has a lot of exposure to the overseas commercial properties. They did a lot of business in the US, east Asia, etc. Hypo have an issue with asset values.
Their assets are rock solid. The problem is in the business model as you say - borrow short which is an issue today. I’m surprised they have stayed afloat so far. My guess is that the German govt will step in and take over.
That will be key to how the european crisis pans out. A decade of japanning (and I don’t mean pottery glaze) is on the cards if the Germans go coy about businesses taking their lumps. It does look like you are right, though, since the German government, it appears, has just guaranteed all deposits unconditionally.
But, if all this is true, what was the advantage to Germany of operating a more ‘restrained’ banking system? In the last 10 years, germany grew about 1% a year. america grew by about 3%, britain by about 3% and ireland by about 6%. But, i thought the upside for germany was that one day the anglo-saxon economies would go belly-up.their bank systems collapse, while germany wuld then come into its own and grow mucg faster than the angl-saxons. but it looks like all thats happening is germany grows slowly while the anglo saxone grow fast for 10 to 15 years especially ireland, then when the anglo saxons go into recession and their banks collapse, germany goes the same way. germany was 20 per cent richer than the eu average in the early 90s, now its one of the poorest countries in western europe. what was the point of it all for germany if they just follow the fast-growing economies into recession. If i was german, i’d be very pissed-off.
The German bankers seems to have caught a bad case of greed. Look at the Luxembourg tax evasion scandal. It’s not exclusive to them either, the Swiss have been caught in flagrante.
North Korea is not affected. It continues business as usual.
Good answer above, you seem to know your stuff, but its very baffling for the non-expert. Is there any country in the west (so not counting oil-rich arab banks and so on) that didn’t behave like this? is there any country around at the moment where all the banks behaved prudently and are now sailing through this credit crunch without a care and able to say ‘i told you so’? Until a few days ago i thought it was germany, but obviously i was wrong. Also, is there a difference between the sort of action ireland, greece and now germany have taken, simply saying they guarantee all deposits, and the bail-out the American government passed last week that’s costing 700 billion. As i said above, i don’t fully understand it, but my impression is that the Americans are actually spending tax-payers money now to relieve the banks that are allready bust, while ireland, greece and germany are simply guaranteeing depositors as a sort of pre-emptive strike to prevent panic that, left unchecked, could cause a run on the banks that might lead them to go bust in the future, but done so with confidence (whether misplaced or not) that they will never be required to back their guarantees up. Is this impression correct or is what ireland, greece and germany have done not fundamentally different from what the americans did?
Bert, very much a non-expert: computer programmer by day, furtive pervert by night, er, … anyway… just been reading the 'pin a bit longer! (and some other sites).
Yes, I think your impression is correct. The US has retained its existing 100k deposit protection insurance. It is now proposing to buy bad assets from the banks at above market price to give them a bit of a dig-out. This will be great if you are a pal of Mr. Paulson or Mr. Bernanke, but nos so good if you are not (of course it will be unbiased!). Europe, don’t forget, is a year behind in the crisis and is still labouring under the illusion that the problem is liquidity (lack on money flowing = lack of confidence) and not solvency (liabilities greater than assets). The US has taken its first step down the path of addressing solvency (apart from the three nationalisations - FNM, FRE and AIG).
Was that scandal not linked to Liechtenstein (and not Lux.) ??
My apologies, you’re quite right.
A further question. I heard some american (not sure if he was an economist or from the media) on bbc radio last week say this crisis was being whipped up now because virtually every country and every media in the world hates the US under Bush and want to ensure Obama wins. Even the american media (he was saying, not my opinion) hated Bush/McCain so much, they’d do anything to screw the republicans. Is there anything in this or is he being paranoid? If Obama wins, as nearly everybode outside the US hopes, could it all calm down?
I suppose the current depfa/hypo situation sheds a bit of light on this as well. Even the most prudent banking operation in the strictest regulated country on earth might find itself in trouble not by it’s own action but by that of a subsidary in some tax haven exposed in a completely different way.
This is the volatility of the current situation, as things start to unravel, previous “safe bets” might turn out to have quite a few skeletons in some long forgotten closet somewhere.
And we are still waiting for the biggest mess of them all to untangle - given what happens in the US with the value of some of the more “exotic” financial instruments, we might still find some banks over here exposed in a way that could cause them to fail.
In another topic, the Enron accounting practises were discussed, I think this is more of the same, only on a larger scale. And I think that’s why seemingly every bank is scrambling for money, because even with a miniscule exposure “of their own” - the fallout might still hit them hard.
Good example is the 1,5 bill deposit depfa has in an Irish bank.