Europe banks prepared for their ‘Lehman moment’

As the likelihood of Greece defaulting on debt payments grows, with an eventual exit from the European Union and the single currency now a not-so-distant possibility, analysts say the banking sector is better prepared for Europe’s “Lehman moment”.

According to ratings agency Moody’s, a Greek exit — while not the agency’s base case scenario — could have severe direct consequences for Greek banks. These consequences likely include a deposit freeze, possibly broader capital controls to stem the accelerated outflow of deposits and an erosion of solvency. They would also include distinct negative implications for banks in the periphery.

Although great uncertainty surrounds the exact nature of the economic and financial dislocations Greece would face in an exit scenario, as well as the after-effects on other Eurozone banking systems, the ratings agency says European banks are better prepared for a “Grexit” than they were at the height of the Eurozone crisis.

“European banks have substantially reduced their direct exposures to Greek financial and non-financial corporates, households and the sovereign in recent years. While Greek banks continue to face acute funding and capital pressures, banks elsewhere in Europe have broadly strengthened their capitalisation and liquidity,” said Sean Marion, managing director of EMEA Banking at Moody’s.

The improved financial strength of Eurozone banks, along with a gradual return to economic growth across the region and the ECB’s Quantitative Easing, have bolstered investor confidence. Although contagion risks have not been eliminated, policymakers have deployed a range of tools that limit contagion within and across financial systems. While several European banking systems have strengthened their performance in recent years — notably Ireland, Italy, Portugal, Spain and Cyprus — legacy issues from the previous crisis still weigh on their ability to return to full financial health, and a Greek exit could derail their progress.