Zom­bie banks are stalk­ing Europe’s econ­omy: Sur­vey

Global bod­ies call to fix woes amid grow­ing cri­sis

Kuwait Times - - BUSINESS -

FRANK­FURT: The walk­ing dead are gnaw­ing at Europe’s weak econ­omy - zom­bie banks and zom­bie com­pa­nies. Al­most a decade after the fi­nan­cial cri­sis that rav­aged the global econ­omy, an­a­lysts and top of­fi­cials are warn­ing that too many banks in Europe are strug­gling fi­nan­cially, keep­ing them from lend­ing to com­pa­nies and fos­ter­ing growth.

Calls to fix the prob­lem have come re­peat­edly from the In­ter­na­tional Mon­e­tary Fund, US Trea­sury Sec­re­tary Ja­cob Lew, and Euro­pean Cen­tral Bank chief Mario Draghi. They say some­thing has to be done if Europe’s econ­omy is to gain more trac­tion and bring down un­em­ploy­ment. Here is a look at Europe’s slow-burn­ing bank­ing cri­sis and how it hurts the econ­omy.

Soured loans are one of the big­gest prob­lems, es­pe­cially in Italy. They cre­ate a vi­cious cy­cle: the slow econ­omy means busi­nesses can’t re­pay their loans. That leaves the banks short of cash to finance new busi­ness ven­tures, which holds back the econ­omy even more.

Get­ting rid of the bad loans is a strug­gle. Italy’s Monte dei Paschi is try­ing to off­load 27.7 bil­lion euros ($31 bil­lion) in such loans to in­vestors who would buy them at a deep dis­count. The bank has to get rid of those prob­lem as­sets be­fore it can cred­i­bly ask in­vestors for more money - up to 5 bil­lion euros through a share of­fer­ing. In Italy, one rea­son clear­ing bad loans can be dif­fi­cult is that the courts are clogged, mean­ing it can take years to pur­sue the debtors and re­cover money. That makes the as­sets worth even less, and the lower the price, the big­ger the fi­nan­cial hole the bank has to fill.

Banks un­der fi­nan­cial pres­sure, mean­while, tend to prop up “zom­bie” com­pa­nies by ex­tend­ing loans rather than press­ing for re­pay­ment. A group of econ­o­mists has found that banks un­der stress tend to main­tain credit to com­pa­nies they al­ready have a re­la­tion­ship with, even if those com­pa­nies are strug­gling. Yank­ing credit to such com­pa­nies would mean rec­og­niz­ing the bank’s own losses on the loans. That leaves both bank and com­pa­nies as walk­ing dead, tech­ni­cally still in busi­ness but un­able to grow, and gob­bling up credit that could oth­er­wise go to stronger com­pa­nies. “Cred­it­wor­thy firms in in­dus­tries with a preva­lence of zom­bie firms suf­fered sig­nif­i­cantly from credit mis­al­lo­ca­tion, which slowed down the eco­nomic re­cov­ery,” wrote the four econ­o­mists: Vi­ral Acharya at New York Univer­sity’s Stern School of Busi­ness, Tim Eis­ert from Eras­mus Univer­sity Rot­ter­dam, Chris­tian Eufin­ger at IESE Busi­ness School in Barcelona and Chris­tian Hirsch at the Goethe Univer­sity in Frank­furt. The econ­omy of the 19 euro­zone coun­tries grew by a quar­terly rate of 0.3 per­cent in April-June. That’s not enough to bring down the 10.1 per­cent un­em­ploy­ment rate quickly enough.

FALL­ING STOCKS

Weak share prices for banks have com­pounded the prob­lems, as they make it harder for banks to raise money from in­vestors. The STOXX Europe 600 Banks in­dex is off 21.9 per­cent this year, com­pared with a milder 7 per­cent drop for the broader STOXX Europe 600. Deutsche Bank is off 52 per­cent for the year to date; Monte dei Paschi is off 86 per­cent and Switzer­land’s Credit Suisse 37 per­cent. Deutsche Bank’s shares plunged after it was re­port­edly fac­ing a fine of up to $14 bil­lion dol­lars re­lated to deal­ings in bonds backed by shaky mortgages be­fore the fi­nan­cial cri­sis.

SKIMPY PROF­ITS, BIG PROB­LEMS

All of this would be less of a prob­lem if banks made enough money to build new cap­i­tal re­serves. But earn­ings have been sag­ging, too. Re­turn on banks’ loans and in­vest­ments has not re­cov­ered to the lev­els seen be­fore the cri­sis. Even banks in coun­tries that have had fewer prob­lems - Aus­tria, France, and Ger­many - have seen re­turns re­bound only to around 0.8 per­cent from 1.3 per­cent be­fore the cri­sis. Deutsche Bank made a scant 20 mil­lion-euro profit in the sec­ond quar­ter de­spite 7.4 bil­lion euros in rev­enue. That fol­lowed a 6.7 bil­lion-euro loss in 2015.

If banks earned more money, they could at­tract in­vestors more eas­ily. “The an­swer is prof­itabil­ity,” said Jan Pi­eter Krah­nen, a pro­fes­sor of finance at Frank­furt’s Goethe Univer­sity. “As soon as prof­itabil­ity is back there will be plenty of cap­i­tal, be­cause peo­ple will be happy to in­vest. “Banks ar­gue that part of the prob­lem is that the ECB has slashed the in­ter­est rate bench­mark to zero, which squeezes bank’s profit mar­gins.

TOO MANY BANKS

The ECB and IMF ar­gue that Euro­pean banks should fix their un­der­ly­ing busi­ness mod­els: their costs are too high and they have too many branches. That’s par­tic­u­larly true at a time when more bank­ing is done on­line. In some coun­tries, cus­tomers can with­draw cash at gro­cery stores and gas sta­tions as they check out with the milk and broc­coli - no teller in­volved.

The an­swer may be merg­ers and job cuts across na­tional bound­aries. “We have seen al­most noth­ing in terms of re­struc­tur­ing the in­dus­try, which should have hap­pened over a cou­ple of years, and which is now even more ur­gent than be­fore, not so much be­cause of the cri­sis but be­cause of tech­no­log­i­cal change,” Krah­nen said.

NO BAILOUTS PLEASE

The banks’ sit­u­a­tion is fur­ther com­pli­cated by new Euro­pean Union re­stric­tions on gov­ern­ment bailouts. The new rules, which took ef­fect this year, are meant to pro­tect tax­pay­ers from pick­ing up the bill for res­cu­ing banks - as hap­pened dur­ing the fi­nan­cial cri­sis, over­whelm­ing en­tire states’ fi­nances as in the case of Ire­land. The re­stric­tions raise the pos­si­bil­ity that share­hold­ers and ju­nior bond­hold­ers - in­vestors who loaned the bank money with­out get­ting col­lat­eral or a prom­ise of pri­or­ity re­pay­ment - would be re­quired to take losses be­fore gov­ern­ment money could be used. How­ever, in some cases, such as Italy’s Monte dei Paschi, those in­vestors are mom and pop savers. So a res­cue could mean wip­ing out the life sav­ings of thou­sands of small in­vestors.

— AP

FRANK­FURT: The head­quar­ters of Deutsche Bank is pho­tographed in Frank­furt, Ger­many. Zom­bies are gnaw­ing at Europe’s un­der­pow­ered eco­nomic re­cov­ery — zom­bie banks and zom­bie com­pa­nies.

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