“The €20 billion the government has set aside is starting to look like small beer.”
By Don Quijones, Spain & Mexico, editor at WOLF STREET.
Officially dubbed “Bad Banks” — not to be confused with the plain-vanilla bad banks that brought the global financial system to the brink of meltdown — are all the rage these days, particularly in bad-loan-infested Europe. And if the European Central Bank gets its way, their numbers could be set to expand even further. On Friday, ECB Vice President Vitor Constancio called for the creation of a whole new class of government-backed bad banks to help buy some of the €1 trillion in unpaid loans that have weighed on Eurozone banks since the financial crisis.
Here’s how it would work: the already deeply indebted governments in question would issue a load of new debt in order to buy up, supposedly at a heavy discount, billions of euros worth of toxic loans festering on the balance sheets of the banks. In other words, unless you’re a senior banker working for an insolvent bank, or an investor with sizable holdings of slowly putrefying bank shares or bonds, these taxpayer-funded bad banks are by nature a bad idea, as Spanish economist Juan Ramón Rallo warns:
A bad bank is a mechanism for redistributing the wealth of a country from its taxpayers to the shareholders, executives, workers and creditors of financial institutions… The logic is disarmingly simple: if the only party willing to buy the [toxic] assets at the prices [offered by the banks] is the State, the chances are that the assets are not worth what the State is paying for them.
Inevitably, the taxpayer-funded bill keeps rising as the losses stack up, until it can rise no further, putting the bad bank in question under unbearable strain. That’s precisely what’s happening in Italy where it emerged last week that Unicredit, the country’s biggest bank and only G-SIB (global systemically important bank), has significantly written down its investment in one of Italy’s two deeply opaque, part-privately owned bad banks, Atlante I.
Unicredit has not specified the exact amount of the write-down but according to the Italian daily Il Fatto Quotidiano it’s likely to be somewhere in the region of €500 million, or roughly 70% of the €700 million the bank has contributed to the fund. The write-down forms part of a massive €12.2 billion clean up of Unicredit’s books as the bank prepares to raise — or at least try to raise — €13 billion in new capital in the coming months.
News of the write down is sure to raise the hackles of Atlante I’s other investors, which include banks, investment funds and a handful of public-private institutions. On Friday, Italy’s second largest bank, Intesa Sanpaolo, which together with UniCredit is Atlante’s biggest investor, said it had written down the value of its stake in the fund by 33%. According to Reuters, a group of about half a dozen other banks that have invested in Atlante have held a series of meetings to discuss the scale of their own possible writedowns.
Atlante I’s funds were largely privately sourced, with Italy’s two largest banks coughing up roughly €1.5 billion between them. A further €500 million was provided by a gaggle of smaller banks and another €500 million was pledged by Cassa Depositi e Prestiti (CDP for short), an almost wholly state-owned financial institution. With a little extra help from certain foreign investors, Atlante was able to claw together some €4.8 billion — to help solve Italy’s €360 bad-debt problem!
It was never going to be enough, so the Italian government and banking community doubled down on their failed policy, creating another bad bank, imaginatively titled Atlante II, with the express purpose of helping to remove some of the toxic debt putrefying on the balance sheets of Italy’s third largest bank, Monte dei Paschi di Siena (MPS), which is now in the process of being bailed out.
Atlante II received much smaller contributions from Italy’s “healthier” banks and a much larger stake from Italy’s government, via state-owned financial intermediaries such as CDP, the Italian Post Office, and SGA, a state-owned “bad bank” dating to the collapse of the Banco di Napoli, which offered to put in €450 million. But like its predecessor, Atlante II was chronically underfunded.
Its creators’ dream of spurring the creation of a true market for deteriorated credit in Italy, where bankruptcy proceedings are notoriously slow and cumbersome, is now in tatters. Atlante II was founded in spring 2016. Just six months later, Italian senior banker Giuseppe Guzzetti, who helped set up the bad banks, said that it was already “out of breath.”
And now what little funds Atlante I and Atlante II have left are hemorrhaging value as the “assets” they’ve been used to buy up, invariably at prices that were too high (often at over 40 cents on the euro), continue to deteriorate.
The two bad banks’ worsening woes are a reminder of the gargantuan task facing the Italian government as it attempts to stabilize the country’s banking system, which is creaking under a bad debt overhang of €356 billion – a third of the Eurozone’s total. Unicredit’s decision to write down its investment in Atlante is almost certain to discourage the private sector from pumping fresh funds into Atlante to bail out weaker banks.
That in turn puts more pressure on Rome, increasing doubts over whether its current bailout kitty of €20 billion will be enough to stabilize the Eurozone’s fourth-biggest banking system. The government has already earmarked about a third of that money to rescue MPS alone. “The 20 billion euros the government has set aside is starting to look like small beer,” Milan-based banking analyst Vincenzo Longo of brokerage IG told Reuters.
When Spain rescued its banks five years ago it spent €53.55 billion (not including government guarantees), of which only €2.69 billion has been recouped. At that time Spain’s public debt to GDP ratio was 85%. That compares to Italy’s 135% of GDP today. Nobody knows just how the world’s fourth most indebted government will be able to raise the sort of funds needed to stabilize the country’s financial system without pushing itself over the edge of the debt precipice. In an ominous sign, Italian government bond yields have been surging, and the yield spread between the Italian and German 10 year bond is nearing three year highs.
But markets are still hoping that the ECB will do whatever it takes to make sure that the banks’ self-inflicted problems will soon become the taxpayers’ burden! By Don Quijones.
They said it was contained, but now it hit the largest Italian bank. Read… Is Italy’s Banking Problem Becoming Too Big to Solve?