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Monday, March 25, 2013

You want contagion…I’ll show you contagion…

Everyone, including us, has commented at some point this week about how calmly markets have reacted to the situation in Cyprus.

Cue Dutch Finance Minister Jeroen Dijsselbloem.

From his interview with Reuters:
"What we've done last night is what I call pushing back the risks…If there is a risk in a bank, our first question should be 'Okay, what are you in the bank going to do about that? What can you do to recapitalise yourself?'… If the bank can't do it, then we'll talk to the shareholders and the bondholders, we'll ask them to contribute in recapitalising the bank, and if necessary the uninsured deposit holders."

"If we want to have a healthy, sound financial sector, the only way is to say, 'Look, there where you take on the risks, you must deal with them, and if you can't deal with them, then you shouldn't have taken them on’”.

"The consequences may be that it's the end of story, and that is an approach that I think, now that we are out of the heat of the crisis, we should take."

"We should aim at a situation where we will never need to even consider direct recapitalisation…If we have even more instruments in terms of bail-in and how far we can go on bail-in, the need for direct recap will become smaller and smaller.”

"Now we're going down the bail-in track and I'm pretty confident that the markets will see this as a sensible, very concentrated and direct approach instead of a more general approach".
We’ve bolded the key quote. Essentially, he saying the Cyprus deal might be a template for other bank restructurings across the eurozone (although he seems to be trying to row back from this a bit).

Now, we’re not saying we disagree with his points and we certainly agree with the sentiment of his comments – banks should be able to shoulder their own risks and if they can’t they should have plans for winding down and deleveraging. This is why we’ve long argued for things such as living wills for banks.

Let’s be clear, banks should be responsible for their own risks. That said, if you go round telling markets all week that Cyprus is unique and specific and all year that a banking union is on its way with an ESM backed recap fund, they aren’t going to take kindly to abruptly finding out otherwise.

It all just seems a bit strange and a bit clumsy - to put it mildly. Sometimes for better or worse, markets need to be handled with kid gloves.

Contrary to his expectation that markets would see it as “sensible”, they have reacted wildly. Spanish and Italian stock markets have swung into negative territory after being up for the day, led by their banks taking a hammering, figures via @suanzes:
Ibex35: -2,68%. BBVA (3.97%), Bankinter (-4%), CaixaBank (-2,44%), Banco Popular (-4.147%), Sabadell (-3,83), Santander (-3,27%)
As we have said before, we never quite bought that Greece, Cyprus or anyone was entirely unique, though with Greece eurozone leaders definitely could have got away with it.

Where does this leave plans for banking union and eurozone integration? We’re hesitant to say tatters, but it’s not looking great.


jon livesey said...

The thing that I found amazing about Dijsselbloem's statement is that he talks about the Cyprus Banks as if they have been irresponsible, when in fact the main damage that was done to them was due to the Greek default.

In other words, the Cypriot Banks are not so much causes of contagion, as victims of the contagion that the euro-zone itself set in motion last year.

I think that Dijsselbloem and his colleagues will live to regret this weekend, because the next time a euro-zone Banking system looks dodgy - Spain, anyone? - the depositors will certainly not wait around to be lectured about "social cohesion". They will have their money in Switzerland and the UK long before that ever becomes an issue.

I imagine that there was some discreet popping of champagne corks this week, when the non-euro Bankers realised what a favour Dijsselbloem did for them.

Anonymous said...

Personally, trust has gone. The 'rules' seem to change to fit the scenario.

The long-term damage is done and I would certainly not be holding any cash in the Spanish banking system going forwards.

Laurel and Hardy are alive and are working as Fin Mins for the EU.

Anonymous said...

The IBEX is down 2.6%; i am not sure i would describe that as 'wildly' down. I would say it is down by a reasonable amount reflecting the fact that banks are less likely to be bailed out in the future; a policy that i think all would agree is quite sensible.

I am generally a big fan of a lot of what is written on this blog. However your supposition that living wills would solve the need for taxpayer aid in a banking crisis is 'wildy' naive. A naivety unfortunately shared by most regulators. The only way to remove ourselves from a situation whereby banks will need tax payer cash is a situation whereby bail-in is supported by governments or where capital levels are greatly increased. Well done Mr Dijsselbloem, at last a sensible confident politician with his own mind not obsessed with promoting reckless behavior.

Rik said...

The problem is he is simply telling the truth and one way or another at some time it will come out anyway.

Seen from that angle this simply looks like a rather convenient time as markets are not that nervous. Contagionrisk is seen as very low seen the movements. You want this come out in the approval stage of a Spanish bail out package. As come out it will.

It is totally perverse to think that the Dutch will cut their junior debt and shareholders in their own banks (at the cost of mostly local financial institutions) and keep shareholders of banks like Bankia alive. It won't happen.
As it won't happen that say Spain can dump all the garbage in their local banksector and put it before Northern doors via a bankunion when it is there. Again it simply won't happen.
Spanish banks are bust and relying that present shareholders will remain in place while taxpayers in other countries pick up the bill is beyond moronic. For those who think that anyway I still have some nice bridges and as a one off Eiffeltower for sale, all generating great yields. Cooked the books myself.

He is clearly unexperienced and this was a slip of the tongue. But this is shooting the messenger because he brings bad news.

Europe should start cleaning up the mess they made. We are now 5 1/2 year in a crisis. And it still hasnot bottomed out yet. The bottom is even not to be seen yet not even proper estimates can be made where it is. Europe (the world's passenger continent) simply cannot afford 1 or 2 (more likely) lost decades.

Same btw with the Dijsselbloem critics on the levy. The levy was going to happen anyway. The only thing he probably did wrong is not have clearly on press-release paper that the Cypriots wanted it this way themselves. This was however a negotiation that had been running since 9 months roughly, there had to be a deal.

Anyway it was beyond moronic to appoint a totally unexperienced guy in this post. But I simply donot see this as major mistakes. What do you want else: a serious discussion about the North not approving a bail out package for a big country or the bankbust topic coming up in the middle of a real crisis (not this kindergarten one).
The truth is not always pleasant, but nevertheless: just face the music and dance.

Open Europe blog team said...

@Anonymous and @Rik

Many thanks for your comments. Admittedly the absolute amount of the fall in IBEX may not have been ‘wild’ it was more the fact that it swung very rapidly from previously positive territory to -2.6% or so in a very short space of time which evoked that feeling. Furthermore, some of the large French and Italian banks ended the day down 6% or so, a fairly sharp decline.

The point about living wills was more illustrative than comprehensive. We were trying to highlight the fact that we supported the sentiment in his comments (hence why we linked to a piece where we called for a widespread restructuring of banks in Europe). You are of course correct that this will not be sufficient, it must be combined with a much more effective system of regulation, more comprehensive bank stress tests, tighter capital regulation (as we have argued for) and a reduction of socialised losses (as the Dutch Finance Minister argues for).

Much of what the Dutch Finance Minister said, we agree with, but that doesn’t change the fact that the timing was off and the impact it has when it contradicts previous statements by eurozone leaders.

Reuters’ Felix Salmon does a decent job of explaining this: http://blogs.reuters.com/felix-salmon/2013/03/25/the-dijsselbloem-principle/

Rollo said...

The trouble is that this is in retrospect. You train banks to think that they will be OK because they are in the Euro, and all together in the same boat. All the other banks so far have got away with it. Then suddenly another inept careless bank gets its desserts. Instead of bailing out, it's bailed in. The result is that many blameless individuals and companies will be hammered. And the other weaker countries will get hammered too.

Anonymous said...

What we're hearing here is that the major global banks now have recovered their losses and added their premium -- all at taxpayer bailout expense -- and the rest of the banking system is now irrelevant to these banksters.

IDRIS said...

"Where does this leave plans for banking union and eurozone integration? We’re hesitant to say tatters, but it’s not looking great. "

Well, that all depends on what one hopes will happen! From the point of view of those who hope and believe that the EU is a force for good that needs to survive, and that the euro boosts trade across the EU, it sure isn't looking great!

For those like me who regard the EU is anti-democratic, terminally corrupt, doomed and utterly unacceptable for those and other reasons, and for those like me who have lon known that the euro was a political device to achieve power that would never be available by democratic means, things are great! Thing are swell!

I say that not because I wish on the people of the struggling countries the hardship which will be theirs as they leave the euro and adjust, but because I wish on them the prosperity, independence, fredom and democracy that they will increasingly be denied as long as theuy stay in the Evil Empire - so evil that now the previous one, Russia, can jutifiably criticise its conduct!

Won'tt be long nowm Nemisis approaches

Rik said...

One way or another the problems that are in the whole EZ financial and governemental systems shopuld be solved.
The markets in that respect are probably the most important party to deal with.

These markets however have not even remotely priced all the rubbish in that is in the system. Basically markets are still hoping that things get AngloSaxon and nearly all the rubbish will be bailed out at somebody elses expense. That is not going to happen. Nobody can see in the future but looking at Finnish, Dutch, and especially german politics it is a safer bet than Man United will be the champions this year.

Starting from there imho pricing in should happen in smaller steps. When everybody is doing it for the full Monti in one time things collapse probably.
Seen from that angle this is the proper way to do it. 1% or a little bit more at one time.
Remember this is a long process in which still a lot has to happen. The target should be cleaning up the mess not keeping markets quiet at all cost. If you dothe latter nothing happens.

That the guy didnot have a clue what he was doing is another issue.

The problem is there is still a lot of hot air in the crisis bubble. And the pace in which things are going now is slower than the speed with which grass grows.
You simply waist probably 2 decades this way. I doubt if the EZ can afford that.
Which means these things will have to be done and risk have to be taken whilke doing it. And in that respect the timing looked ok.

Not even to mention the fact that structural reforms in the South go breathtaking slow. For all sorts of reasons, but they simply donot move forward. This put some pressure on them that was lifted by Draghi and subsequently used to the full extent.

Rik said...

The Cypriotic banks did mess everything up. They had a riskmanagement that was beyond moronic.
Amounts the size of its capital or more were invested in one thing Greek government bonds.

Banks simply should spread risks.

I am not with Schauble and Co in this respect. Their outdated businessmodel is imho not being able to set up proper riskmanagement systems and proper working regulation.
This businessmodel works still fine in 10s of taxhavens only those are not putting all their eggs in one basket usually. And if they do they put it in the right one (say US Gov and alike) not in a basket that already smells like rotten eggs.

Another problem is their banks waited much too long to get out of Greece. And waited much to long to reorganise (2 years ago it came up in the financial press, including a lot of suggestions to limit the damage). Hardly anything has managed.

So what has failed as a businessmodel is that you should not go big time in banking if you donot have a clue about the business.

Denis Cooper said...

Why did the banks in Cyprus buy Greek government bonds?

Anybody got an answer?

I mean an answer backed up by evidence, not a guess - I can do guesses for myself!

Rik said...

Because they are heavily/culturally related to Greece and it gave a few points more interest than say Germany.

The problem is that according to the applicable legislation these kind of bonds were seen as riskfree. A lot of the banks not only in Cyprus thought subsequently that they in real life were actually also riskfree. Which is beyond moronic of course (but it happened and still is happening a lot).

The bankingproblem made worse because riskfree means that no capital is required to be used to finance it. So basically giving an incentive to buy more of the crap.

Overall a much bigger problem than bonus. But Spanish banks for instance keep repeating it even at this very moment.

Further made worse by the fact that accounting rules allow to keep these bonds at nominal even if the marketprice is much lower as long as the bonds are to be kept to maturity (but who can ontrol that). Which leads to a profit/loss trap. After the first big drop in value. It was de facto not longer possible to sell the crap as if the banks did that the losses would have been realised for bookkeeping purposes and should be accounted for/taken at that moment. So the bonds were kept because of that and they dropped more and subsequently made the losstrap even bigger.

But also this still happens a lot of the ECBs 'profit' is made that way. The Dutch under the present marketfavourit Mr Dijsselbloem gave a guarantee to its Central Bank on potential losses on especially Greek bonds (not counting as official statedebt, the guarantee that is) so the CB could distribute the revaluation profits on the Greek bonds it had on its Balancesheet. Plugging a whole in the budget as the dividend is considered official revenue.
While the marketvalue roughly dropped by 2/3 since the bonds were bought. The Dutch can survive that but a lot of other countries do the same things.

jon livesey said...

There are two ways to look at Dijsselbloem's statement. One is to say "Good, someone finally told the truth" and the other is to ask "What are the consequences?"

Why did the UK develop the concept of the Central bank as lender of last resort? It was to moderate the number of Bank failures, by supporting all but the most hopeless. It was also to instill confidence in the system by reassuring depositors that it was very unlikely that they would lose their cash, even if the Bank failed. The result is that London has been the main financial centre in Europe for two centuries.

You can argue that it is "right" or "just" for depositors to be bailed in, but the consequence has to be to deplete confidence in euro-zone Banks in general, make depositors more panicky and prone to cause Bank "runs", and benefit Banking systems outside the euro-zone.

jon livesey said...

I don’t think we know the half of what is going to happen to Cyprus. The FT is reporting today about plane-loads of Swiss, etc., bankers arriving to offer accounts to foreign residents of Cyprus. This isn’t just a Banking crisis, but the closing down of most of the Cypriot Financial Industry, with an accompanying surge in unemployment among pretty skilled employees.

And the killer is that manufacturing is only about 5% of the Cypriot GDP. The rest is made up not merely of finance, but all of the ancillary industries around finance – fancy hotels, chalets, expensive homes, restaurants, cleaner and service personnel of all kinds.

Cyprus is small, but scaled for population, I think it’s going to be Greece times two or three. They could easily see a 20% drop in GDP and no recovery for years, and they will still have a currency whose parameters are set for Germany’s benefit. Wages and salaries would have to plunge for Cyprus to become competitive in anything besides finance.

Rik said...

You can look at Dijsselbloom's statement in many ways, but at the end of the day all can be summarised as follows:
-Forget massive Northern taxpayer bail outs of banks in other countries unless there are very unusual circumstances. Right or wrong. It is simply the way it will be. You donot get otherwise approval in Northern parliaments.

-From there Dijsselbloom simply states the factual situation, bloody obvious if you like.

-Imho as it is clearly not priced in (which is the major problem) you could do it now or later. But at one point it will come up.
It has to happen anyway. This might not be the optimum moment but shortly before a bail out crisis in Italy or Spain would be much worse. Which probably would have happened if all so called responsible old hands would have had their way.

The guy clearly was not in control of the situation. But that is another issue. Apparently he thinks simply completely logical without considering the emotional political part of things. And he doesnot seem to learn from mistakes. He was for a large part responsible for messing up the Dutch formation, 6 month or so ago.
And now repeats the same sort of mistake.

It was pretty stupid to appoint a guy with nearly no experience in that position. However what were the alternatives at that time?

But he is now appointed which has created a completely different situation. Trying to get rid of him like FT proposes simply shows that they FT that is doesnot have a clue about the political context this is playing in. This is most likely how things will go in Dutch parliament in the future and you simply need their approval. The Dutch parliament looks posibly the greatest danger for any future rescue operation. P&%@ them off by firing a guy for stating the official Dutch and as a consequence EZ policy (money talks and if you want to keep everybody together you have to keep the Dutch and Finns as well aboard) and you open a new can of worms (and likley filled with very poisenous ones).
You look to be stuck with the guy, learn to live with it the alternative looks much worse.

Anonymous said...

Cyprus should have gone bust. They'd be better off at the hands of the bailiffs rather than in debt to the Eurozone. The bailiffs can only take what you own. The eurozone wants to control your whole life - no room to change interest rates, no self-determination, no chance of ever having control of your own affairs ever again. Cyprus would be better off inviting the Turks to run the whole country. They can't hate them any more than they should hate their supposed friends

david Barneby said...


You are so right Cyprus should have defaulted , gone bust , they would have been better off .
It was easy for Merkel to say she was prepared for Cyprus to leave the Eurozone . I wonder what her reaction would have been if they had decided to do so . I suspect every further effort to prevent them doing so .
EU cohesion and solidarity is only seen as between member state governments ; the people are not considered at all other that 500ml . I suspect that popular support is well below that figure and fast waning .