Who Gets to Pay for the Italian Banking Crisis?

The missing Capital Buffer.

By Don Quijones, Spain & Mexico, editor at WOLF STREET.

Six years after Europe’s sovereign debt crisis began, the Eurozone’s third largest economy, Italy, has finally decided to do what just about every other country has done when facing a full-blown, almost out-of-control banking crisis: to set up a bad bank to hide its worst debt.

It was only a matter of time: in the last six years, Europe’s economies have been drowning in an ever-expanding vitrine of bad debt — and none more so than Italy, where non-performing loans have soared to more than 350 billion euros, a fourfold increase since the end of 2008. At 18%, Italy’s ratio of nonperforming loans is more than four times the European average (and Europe’s banks are in worse shape than America’s). It’s the equivalent of 21% of GDP in a country that boasts Europe’s second highest public debt-to-GDP ratio (130%), just behind Greece, and where the banks hold over 70% of the country’s debt.

To make matters even worse, if Brussels gets its way, Italy’s government will not be able to dip into future taxpayer funds to stop its debt-laden banks from dropping like flies. European law no longer allows that sort of thing. Well, not really. Now, in the wake of new regulations that came into effect at the beginning of this year, collapsing banks in Europe will be “resolved” with the funds of stockholders, bondholders and other investors, including account holders with deposits of more than €100,000 euros — instead of classic bailouts that would raid directly or indirectly the taxpayers of other countries.

It might even make bank creditors realize that investing in a bank is not a risk-free venture.

That’s not to say that the bail-in approach doesn’t have its share of problems – chief among them the “super-priority” status covertly granted to derivative claims in recent international banking regulation. In other words, as the former hedge fund manager Shah Gilani warns in a Money Morning:

If your too-big-to-fail (TBTF) bank is failing because they can’t pay off derivative bets they made, and the government refuses to bail them out, under a mandate titled “Adequacy of Loss-Absorbing Capacity of Global Systemically Important Banks in Resolution,” approved on Nov. 16, 2014, by the G20’s Financial Stability Board, they can take your deposited money and turn it into shares of equity capital to try and keep your TBTF bank from failing.

There’s also the niggling little fact that Europe’s banks have not yet built up the capital buffers needed to comply with the EU’s new bail-in rules.

“In an ideal state we would like to find ourselves in a situation where banks have all built their financial buffers in terms of MREL (…) but we are not there yet,” one EU official told Reuters. “It’s a challenging situation because we may be confronted with a situation when there is a (resolution) case but the buffer has not been built,” the official added.

That didn’t stop four small regional banks in Italy from being semi-bailed-in late last year, with the bulk of the losses imposed on unsecured investors, including many small-time retail clients who were conveniently “misssold” complex financial products they did not understand, just as happened to hundreds of thousands of pensioners in Spain’s multi-billion-euro preferentes scam.

Meanwhile, the race is on to get hundreds of billions of euros worth of toxic assets off the big banks’ balance sheets and into a safer place – i.e. a bad bank. As experience in Spain and Portugal has shown, setting up a bad bank serves as little more than an accounting gimmick to cloak reality. As WOLF STREET reported last year, Spain’s bad bank, Sareb, is hemorrhaging funds at a frightening rate while taxpayers are likely to be on the hook for roughly half of its decomposing assets for at least another ten years to come.

Despite all that, a new agreement has just been reached between Italy’s Finance Minister Pier Carlo Padoan and Europe’s Competition Commissioner Margrethe Vestager that will establish a new bad bank in which to bury, mafia-style, some of Italy’s most toxic financial waste.

“We believe that a measure to create a market for non-performing loans would be useful, but if it is done, it has to be done right away,” said a shrill sounding Giovanni Sabatini, director-general of the Italian Banking Association.

There’s good reason for the haste: since the year began, the shares of Italian Banks are down on average by more than 20%, and shares of Monte dei Paschi di Siena, the country’s oldest and third-largest lender, plunged more than 50%, before recovering gingerly toward the end of last week. The bank’s NPLs are estimated at nearly 100% of its tangible equity (a sentence that bears re-reading).

Bankers say concerns about new bail-in rules, which came into force on January 1, are only adding to market jitters. “It is a perfect storm for Monte dei Paschi,” one senior banker told the Financial Times.

By applying the bail-in model across the board at a time that most banks do not even have the required capital buffers in place, Europe’s new financial regulations could end up producing the exact outcome they were supposedly designed to avoid. By imposing losses on creditors of a failing bank, the authorities could end up unleashing the mother of all bank runs as depositors and creditors across the land finally cotton on to the fact that their savings and investments might no longer get bailed out by unwitting taxpayers in other countries! By Don Quijones, Raging Bull-Shit.

Things are likely to get a whole lot uglier in Spain. Read…  “Everything Has Come to a Standstill”: Political Fallout Hits Business in Spain

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  11 comments for “Who Gets to Pay for the Italian Banking Crisis?

  1. robert h siddell jr says:

    Correction: The authorities will unleash the mother of all bank runs as depositors and creditors across the land finally cotton on to the fact that their savings and investments might no longer get bailed out by unwitting taxpayers in other countries!

  2. TheDona says:

    The Cyprus Capital Levy set the stage for what is waiting in the wings.

  3. walter map says:

    These capitalists generally act harmoniously and in concert to fleece the people, and now that they have got into a quarrel with themselves, we are called upon to appropriate the people’s money to settle the quarrel.

    – Abraham Lincoln

  4. Keith says:

    Many big depositors will be companies who will suddenly go bankrupt over-night, if nearly all their working capital is suddenly take to keep a failing bank afloat.

    A big bank going down will suddenly remove lots of companies from the economy and the products they made will suddenly be removed from supply chains.

    I think it was Gail Tverberg who saw this having disastrous consequences for the tightly knit global economy.

    • Petunia says:

      What created the 2008 crisis was the banks cutting all the credit lines for small businesses. No one could fund the inventories to complete the sales in the pipeline or pay employees. The banks forced people out of business.
      But TPTB are still blaming the bad mortgages which were only part of the problem.

  5. John Doyle says:

    There needs to be a selective debt jubilee. Any fiat created loans should be eliminated and any deposits guaranteed. Derivatives, basically insurance bets, should have NO protection.

    Bank loans now follow the Credit Creation Theory. Although the bank may have required reserves they take no part in loans. The loans are simply advanced by journal entry, from thin air.

    Losing these would affect the banks but they would survive. They never had the money originally so they lose out mostly on interest payments.
    Borrowers would get to keep their mortgaged properties. etc etc. It would drastically cut the private sector indebtedness down to size.
    Then banks would be banned from speculative lending and derivatives games.

  6. walter map says:

    Tsk tsk tsk. Where did all that money go?

    If you look closely, you’ll notice that what is happening amounts to yet another attempt to replace phony paper assets, which never really existed, with real assets that people actually worked for.

    This is how the world’s real wealth is confiscated and consolidated. They have gotten away with it before, and they are about to get away with it again. All the handwringing is just for show.

  7. MC says:

    MPS has been effectively bankrupt for years because it acted as a “lender of last resort” for PD, Italy’s ruling party, at local level.
    A Region, Province or Municipality run by a PD majority could always go to MPS to finance the latest hare-brained scheme on a strictly “no-questions-asked” basis.
    Now, if you think the government in Rome is profligate, you haven’t met Municipalities and their ilk. To say they have holes in their hands is a mild politically correct statement.
    The Province I pay taxes to was at last count €540 million in debt, almost twice its revenues.
    Where did that money go to? Part to build an airport nobody uses and part to form a police force they’ve been ordered to dismantle (don’t get me started on how law enforcement is run in Italy…) and which has been continously hit by accounting scandals.

    MPS has financed endless examples of such waste throughout Italy: how about a tube system for a city with a population of under 200,000 and shrinking? As the debt piled up to build such egregious Potemkin Villages, it was invariably passed on to Muni/Province/Region controlled entities which make a point of delaying or even skipping interest payments altogether.

    To this it must be added smaller banks, like the four recently saved from the oblivion they rightly deserved, have long extended loans more on the basis of local political alliances and other less mentionable factors. These loans strongly resemble those the Big Four extend to the politically connected in China, with the difference Beijing will always make up the banks’ losses and may even change the law to accomodate them, a luxury Italy hasn’t as it depends on Brussels’ goodwill to remain fictionally solvent as a whole.

    Now, I suspect the main reason Italy’s bad bank has been delayed so long is because nobody has an idea of how many NPL’s are really on the banks’ books. Until three months ago they were €200 billion. Now the total appears to be 150% higher. Again not unlike China, Italy has stuffed bad debt in all the nooks and crannies of its banking system: albeit a bad bank would solve a lot of problems short term, it would also illustrate how weak and corrupt Italy’s banks truly are and how local authorities were either their accomplices or so incompetent as to allow themselves to be fooled. Let’s say the bad bank starts with €400 billion in NPL’s… what would this say about those in the government and in the banking association (ABI) who swore the total was half as much?

  8. Bill Sodomsky says:

    Precisely Walter!

    This is the true banking model stripped bare of any illusion. In the terminal stages of any Ponzi Scheme, the criminality becomes impossible to conceal. It’s now just a matter of time before even the most asleep person “cottons” on to the scheme, which simply is an unfair exchange of hard labor for worthless currency. Talk about bait and switch.

    One of these days, the wrong person is going to realize just how he was screwed over and he is not going to take it lightly. This whole criminal enterprise of high finance (an environment of which I have first hand experience) will soon be better understood as the economy continues its unstoppable downward spiral with energy and credit deflation leading the way. There’s no way out this time without exposing your cards. Negative interest rates, more maniacal QE with a few bail-ins for good measure, will expose TPTB for what they really are. Everyone is going to get a good lesson in modern day finance and banking. It’s about time, because it’s not taught in conventional curriculums.

  9. Frank says:

    And two days ago a US Treasury official said that the US considers Putin to be corrupt.
    Please I,ve had enough.

  10. Boris says:

    Thanks for having the Quijones to report this.

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