Why are European banks going bust?

Actually Europe is way behind the curve here. The US, unlike Europe, has had effective deposit guarantees in place for many years that acts as a real psychological fire brake against the start of a genuine depositor bank run. The 20K limit in place in most EU countries was known to be far too low to act as any kind of psychological barrier to depositor skittishness during times of banking stress.

My primary bank, Washington Mutual, just went under but at no stage in the last 18 months since it was obvious that it was distressed did I have any doubts about the safety of my money. Knowing what happened during the last big bank wind up cycle in the late '80, you’ll get your money but maybe not immediately, I have kept a cash float on hand just in case. For a worse case scenario. This is a once every several generation event. Just like I have my earthquake emergency supplies, because I happen to live in earthquake country. You can never be too careful.

So Europe is now were the US banking system was just over a year ago. The real fun is only starting…

Very interesting. If what you say is correct and I’m sure it is, I wonder if that means that, because the US has realised the extent of the problem and taken steps to fix it, while europe has been in denial to some extent but is now about to be hit like the US was last year, perhaps in the next year the ecb will have to cut interest rates like the US did and the euro plummet against the dollar? Or is that too optimistic? I suppose what I’m getting at is: could it actually be good for ireland if europe has a major banking crisis like the US has had (as long as it doesn’t get out of hand) if it forces the ecb to cut interest rates and the euro to go down. Was ireland actually in the worst possible position in the past year, being so tied to america economically, but being part of the euro area, where it appears the authorities were in denial of the problem? Looked at with hindsight, does the ecb decision to raise interest rates in summer now appear to most financial experts to be completely crazy, or will history vindicate them?

This crises started long before Obama got the nomination. The first really public signs of the current crises were in August 2007 and it became very obvious that we were heading for a systemic crash by October 2007.

And the foundations for the current mess were set in place in the early to mid 1990’s. So its not all Bush’s fault either.

Generally most American commentators you hear on the BBC are loony left or wingbat Democrats. The same goes for RTE. Coverage of the US in the British and Irish media rarely rises above Der Sturmer level anti-american charactures. Not that the US MSM is much better. Which is why the US metropolitan newspapers are in a death spiral and network evening news viewership is on a sharply downward ‘Oldsmobile Curve’…

ECB were exactly right on interest rates. The longer the crisis can go on before interest rates have to be cut the better but the cuts will come as southern and western europe have been infected. In short the euro being created happened at the wrong time for many countries . Remember the whole problem comes from the Fed keeping interest rates far too low in 2003 / 2004 when the US economy required far higher rates.

the biggest mistake made in ireland was joining the euro with a booming sconomy that went into hyper drive. Our interest rates for past 8 years have been about half of what they should have been. Joining the euro was like getting a Golf GTI fitted with an 8 litre engine - it was always likely to end in tears.

the way around this would have been to have fixed caps on borrowing for property asset investment in ireland both residential and commercial ie max borrowing of 70% . Instead the govt put the foot on the accelerator with tax breaks for non productive investment.

i digress somewhat but if there are going to be a wave of bankruptcies in europe this will probably send the euro into a tailspin. Interest rates would probably be slashed and the EU would have to pull together and agree some kind of rescue plan.However, given the US is in a recession and heading into a depression i cant see the euro falling against the US$

Don’t be so sure about anything you read (I was going to say on the net, but it applies to pretty much everywhere these days. I’m trying to figure out what is going on as much as the next man from very incomplete information. The scary thing, for me, is that the powers that be seem to have the same incomplete information!

The questions just keep getting tougher!

I don’t think the Americans have really realised the depth of the problem. The 700 bn is a drop in the ocean - FNM and FRE alone guaranteed 3.2 trillion of mortgages from 2005-2007 (IIRC). Low interest rates haven’t really helped in the US - long-term mortgage rates have remained pretty much unchanged. Banks get a better margin, but are not passing on the savings to their customers. The same is true in the UK - interest rates have risen since the BoE cut rates a few months ago. The problem is that the Fed is in danger of losing control of the cost of money. As central banks don’t actually supply money, the rate they set follows what the money markets (particularly the bond markets) see as the cost of money. So while the ECB could cut rates, there is no guarantee that it would do anything other than make the spreads (the difference between what banks charge and what the central bank charges) to its rate ridiculous - the Irish banks have variously raised mortgage rates by about 0.75% without the ECB raising rates. So, the answer is that the ECB can’t really lead interest rates, it has to follow to some extent (unless you are one of the lucky ones on a fixed tracker rate).

The other thing is that the ECB is worried about is wage inflation. This is an embedded cost in an economy and it rarely goes down. Wage inflation rates are high in Germany and France, so this has worried the ECB.

I think the euro/dollar exchange rate has become something of a mystery. In theory, capital flows to the currency offerring the best interest rate, but the current nervousness seems to mean that capital is flowing to the currency that is offerring the best security or the best likelihood of growth. The recession in the US has long been coming, but the strength of the euro seems to have been based on the idea (that I find ridiculous) that Europe could somehow decouple itself from the US and avoid an economic slowdown. With France the latest eurozone economy to formally enter recession it is clear now that is not the case. The future direction of rates is really not clear.

History will vindicate the winners, even if the losers made the better decision at the time!

If the euro does go into a tailspin, it is likely that interest rates will rise as so many basic commodities denominated in dollars are imported into the eurozone. No?

Hopefully, size matters in currency terms and the eurozone economy is large enough that it won’t go into a tailspin!

But that is not what is happening here. Hypo had exposure to CDOs and commercial property. DEPFA’s only problem is the business model. There was nothing unethical or terribly risky in what DEPFA was doing. It ran into problems because of what others had done to the wholesale money market.

You’re right about it not being unethical, but I think the terribly risky bit is a bit more ambiguous. Many said at the time that Northern Rock failed that given the length of the debts it was funding that relying so heavily on wholesale markets was bound to fail at some point in the life of the debt. I don’t see the difference between NR and Depfa in this regard.

True, but it is a good indicator of how a seemingly small problem somewhere in your balance sheet can come back to haunt you in a matter of hours. And, this is still without unravelling the great gordian knot that is CDO’s etcetera.

Herein lies the crux of the problem. Even if your bank does not have any of the exposure to CDO-CDS , what’s to say that another bank that has a good chunk on deposit there… Or that bank might not itself be exposed, but one of its largest depositors… and so on in ad finitum.

I guess a lot of banks across the euro zone started asking these questions, and the best they can come up with is “we’re fine… we think”

But if I remember correctly their leverage was something like 40. Which means that even in the best case scenario it only takes a series of small market movements in the wrong direction to make you insolvent.

Assuming that the price will always go up, and all markets will always remain liquid, is not exactly a robust business model.

Nothing extraordinary. The average leverage in Europe is 35.

Don’t forget demographics. Most Eurozone countries have aging populations - in particular Germany. The population bulge in Germany, for example, is the current 45 - 60 year olds. Aging populations and high pension bills tend to mean lower growth than in the Anglo-Saxon economies with there comparitivly younger populations. So the German banks invested there, and bought all the muck US banks etc were selling.

Exactly. In the good old days it used to be 10 for banks and 12 for investment banks.

Warren Buffet back in 2003…

and there’s more from Hypo

Why has there been no coordinated response by the EU to the crisis threatening Europe’s banks???