European leaders, fresh from cobbling together a $100 billion euro ($125 billion) rescue package for Spain’s shaky banks, face a wider problem that afflicts financial institutions across the eurozone: an addiction to borrowed, short-term funding for their daily operations.
European banks for decades have made loans to individuals, governments and corporations that far exceeded the deposits they were able to collect, forcing them to borrow heavily from foreign banks and money market funds, according to the New York Times.
European banks have an average loan-to-deposit ratio exceeding 110 percent, which means they owe more money than they have on hand and makes them vulnerable to market volatility and capital flight.
Spain’s Bankia had a loan-to-deposit ratio of 160 percent, one of the highest in Europe, before the mortgage lender’s recent failure exacerbated the crisis, the Times said.
While banks in Italy have long been regarded as healthier than their Spanish and Irish counterparts, slow growth in Italy and the stigma of a government debt load of 120 percent of GDP, second only to Greece’s, have raised concerns those banks too may come under pressure, the Times said.
Already, Italian bonds were feeling the heat in the first day of trading after the Spanish bailout, falling for a fourth day and pushing the yield up to nearly 6 percent, Bloomberg News reported
“The scrutiny of Italy is high and certainly will not dissipate after the deal with Spain,” Nicola Marinelli, a fund manager at Glendevon King Asset Management in London, said in a Bloomberg interview. “This bailout does not mean that Italy will be under attack, but it means that investors will pay attention to every bit of information before deciding to buy or to sell Italian bonds.”
Moody’s Investors Service last month downgraded the credit standing of 26 Italian banks. Moody’s said Italy’s economic slump was causing loans to fail and making it very difficult for banks to raise funds through short-term borrowing.
European banks would also suffer losses if Greece left the euro currency union, throwing most euro-denominated loans to Greece into default, the Times said. Increasingly, finding a region-wide solution to resolving the financial crisis has become the priority for Europe’s leadership.
``European banks are at the epicenter of our current worries and naturally should be the priority for repair,’’ Christine Lagarde, managing director of the International Monetary Fund, said in a speech in New York on Friday.
"The heart of European bank repair lies in Europe.’’
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