Pages

Wednesday, September 14, 2011

European bank run continues: deposit flight at European banks raises risks

For several months, this blog has predicted and documented the ongoing run on the European banks.  Today, Bloomberg ran an article which confirms this deposit flight.

This deposit flight is occurring despite three plus years of implementing the best ideas of the global financial regulatory community, Wall Street sell-side and buy-side firms, global consulting firms, and economists.

Despite hundreds of millions in fees, the on-going deposit flight confirms that all these ideas have failed to restore investor confidence.

It is time to turn to and implement ideas from a different source.

Besides predicting and documenting this deposit flight, your humble blogger has also been discussing what it will take to stop this modern version of a "run on the bank".

The only way to restore investor confidence and halt this deposit flight is for financial institutions to provide 'utter transparency' by disclosing their current asset and liability-level data.  It is only after market participants have analyzed this data and know who is solvent and who is insolvent that confidence can return and the run on the banks stopped.
European banks are losing deposits as savers and money funds spooked by the region’s debt crisis search for havens, a trend that could worsen economic and financial conditions. 
Retail and institutional deposits at Greek banks fell 19 percent in the past year and almost 40 percent at Irish lenders in 18 months. Meanwhile, European Union financial firms are lending less to one another and U.S. money-market funds have reduced their investments in German, French and Spanish banks. 
While the European Central Bank has picked up some of the slack, providing about 500 billion euros ($685 billion) of temporary financing, banks are cutting lending, which could slow growth in their home countries. They’re also paying more to keep and attract deposits -- or, in the case of Italy, selling bonds to retail customers for five times the interest they offer on savings accounts -- which will erode profitability. 
“All of this is symptomatic of a lot of fear in the European financial sector,” said Kash Mansori, senior economist at Experis Finance in Charlotte, North Carolina, which advises U.S. and European companies. “It shows that even European banks don’t trust each other anymore, so they’re taking their money out of the EU system. It’s similar to the distrust that happened worldwide in 2008.”
Regular readers know this because the question of who is solvent and who is insolvent has not been addressed.
Deposits by financial institutions in Greek banks, which make up 21 percent of the total, have fallen by one-third since the beginning of 2010, while those by non-financial firms and residents dropped 9 percent, according to Bank of Greece data. 
In Germany, deposits by financial institutions, which account for one-third the total, declined 12 percent over the same period and 24 percent since the September 2008 collapse of Lehman Brothers Holdings Inc., ECB figures show. 
In France, where the erosion started last year, the same type of deposits, which make up half the total, are down 6 percent since June 2010. 
They have fallen 14 percent since May 2010 at Spanish banks, where they account for one-fifth of the total....
While retail deposits at Italian banks have fallen only 1 percent in the past year, the outflow of money from financial institutions has exceeded $100 billion, a 13 percent decline, according to Bank of Italy and ECB data.

Some of the retail deposits have been invested in bank bonds sold directly to retail clients that pay as much as 5 percent, compared with an average interest rate on deposits of 0.88 percent....
In Portugal, where banks raised the interest rates they pay savers, non-residents have reduced deposits by 19 percent since March 2010. 
The eight largest U.S. money-market funds halved their lending to German, French and U.K. banks over the past 12 months and stopped financing Italian and Spanish financial firms, according to data compiled by Bloomberg from investment reports. 
A survey by Fitch Ratings showed that U.S. money-market funds reduced their lending to European banks by 20 percent from the end of May through July. The funds cut investments in Spanish and Italian lenders by 97 percent, to German firms by 42 percent and to French ones by 18 percent, Fitch said. The Aug. 22 survey covers almost half the $1.53 trillion assets held by money funds in the U.S.
The banks in every European country have seen a significant outflow of deposits.
...[F]irms are leaning on the ECB for short-term funding. Borrowing by Italian lenders from the central bank more than doubled to 85 billion euros between June and August. Greek and Irish banks each took about 100 billion euros from the ECB in August. Irish lenders also got 56 billion euros from their domestic central bank. Portuguese banks borrowed about 46 billion euros from the ECB, while Spanish banks took 52 billion euros in July. 
By accepting those countries’ bonds as collateral in exchange for funds, the ECB is piling up risk, ... “If there are sovereign defaults, the ECB will be left with garbage that has been accepted as collateral,” said Lachman. “It’s putting EU taxpayers’ money at risk in a very non-transparent way. But there’s no alternative. The ECB is the only game in town.”
... ECB President Jean-Claude Trichet has defended his institution’s actions. European banks have more collateral that they can place with the ECB in exchange for additional financing if they need it, he said Sept. 8 in Frankfurt. 
“We stand ready to provide liquidity as we have done in the past,” Trichet said. 
In theory, when providing liquidity, central banks are suppose to lend only against good collateral.   With the lack of information on bank's current asset-level data, it is impossible for market participants to know if the ECB is lending only against good collateral or not.
The outflow of deposits is a measure of eroding trust in the region’s financial system. 
... Irish banks have been the hardest hit. Losses on the collapsing real-estate market and a government guarantee of bank liabilities forced the nation to seek EU assistance in November. 
The money started flowing out in early 2010 as confidence in the government’s ability to support the banks waned, and it accelerated later that year after Ireland’s rescue by the EU led multinational companies to move deposits out of the country. 
Ireland took control of five lenders and is winding down two of them. Even Bank of Ireland, which wasn’t nationalized because its losses weren’t as catastrophic, saw deposits dwindle by 20 billion euros, or 23 percent, last year. 
At Allied Irish Banks Plc (ALBK), Ireland’s second-largest lender, deposits declined 37 percent over the past 18 months. The bank said July 25 that most of the drop occurred at the end of 2010 and in the first quarter of this year as companies pulled money amid sovereign and bank downgrades. Deposits since the end of the first half have been “broadly stable,” said Alan Kelly, the lender’s director of corporate affairs and marketing, who declined further comment.

While “the rate of outflow is falling,” Finance Minister Michael Noonan said on Sept. 1 in Dublin, that hasn’t soothed savers such as Phil Carey, an 86-year-old mother of eight from Galway in western Ireland. 
“I wouldn’t trust the banks,” said Carey, who keeps her savings at credit unions. “I’d be afraid of them. Look at the money they gave to the builders and the terrible situation we’re in now.” 
It isn’t easy for retail depositors such as Carey to move funds abroad. In Ireland, there has been some shift to units of foreign banks operating in the country. RaboDirect, the Irish online-banking unit of Utrecht, Netherlands-based Rabobank Group, saw deposits rise about 40 percent in 18 months, according to General Manager Roel van Veggel.
Clearly, that hiring BlackRock Solutions, Barclay Capital and Boston Consulting to run stress tests and advise on reorganizing the banking system did not, as predicted here before the fact, restore depositor confidence.
... European lenders are also moving money out of the region. The cash that foreign banks keep at the U.S. Federal Reserve has more than doubled to $979 billion at the end of August from $443 billion at the end of February, according to Fed data. The increase in bank deposits at the ECB has been smaller, suggesting that healthy European firms are putting money in the Fed instead of lending to weaker banks, according to economist Mansori, who also writes a blog called “Street Light.” 
“Do you want to keep your money at the Fed, which you know will pay you back, or at the ECB, which has lots of periphery euro zone country debt?” said Mansori. 
The reluctance of European banks to lend to one another has been on display since last month. The spread between Euribor and the overnight indexed swap rate, which reflects the higher risk of lending euros for three months versus overnight, widened to 0.85 percentage point on Sept. 13. The rate compares with 0.36 percentage point at the beginning of August.
Banks can’t continue to rely on the ECB for funding because that’s a sign of being on “life support,” so they’ll have to shrink their balance sheets, said KBW’s Ramirez. That means reduced lending in countries where growth is stagnant....
While banks say higher capital requirements will curb lending and economic growth, it’s the lack of capital in the European banking system that’s spooking depositors and other creditors, said Lachman of the American Enterprise Institute. That’s why the International Monetary Fund is pushing for recapitalization of the region’s banks, he said. 
Paying more for deposits to prevent them from leaving, as banks in Ireland, Spain and Portugal are doing, will hurt banks’ chances of rebuilding capital through earnings. Offering higher interest rates for retail bonds as Italian lenders have done will cut into interest margins.

“It’s not sustainable for this type of pricing strategy to continue,” Rabobank’s Van Veggel said about the high rates Irish banks are offering for deposits. “But I don’t think rates will start to come down until nervousness about European, and indeed global, issues calm down.” 
German and French banks are losing funds because they hold the most debt linked to troubled euro zone countries, according to Mark Schaltuper, an analyst at Business Monitor International, a London-based consulting group. Investors and creditors worry that German and French lenders will face losses on their holdings in the event of a default, he said. 
“European policy makers are kicking the can down the road, waiting for banks to recapitalize slowly so they can take these losses over time,” said Schaltuper, the firm’s chief European analyst. “Until the debt situation in the periphery is sorted out, these funding troubles won’t end.”

No comments:

Post a Comment