And this is part of the reason why Great Britain wanted to leave the crumbling European Union (EU). The eurozone is facing a brand new crisis: the collapse of Italy.
Italy’s banks are going through trying times, and will likely become the block’s next big headache. Ostensibly, Italian banks are undergoing a series of tumultuous problems, including the build-up of bad debt, collapsing share prices and defaults from non-performing loans.
The Italian banking sector is now the most immediate and biggest threat to the fragile health of the eurozone. It’s estimated that the problem is worth about $525 billion, which is about one-quarter of Italy’s gross domestic product (GDP). This figure includes $290 billion worth of bad debts and roughly $200 billion in potential defaults.
The bad debts have been accumulating since the global economic collapse. Here is a chart courtesy of the Financial Times:
Simply put: one-fifth of the nation’s bank loans are terrible.
Later this month, it will be clear just how much of a weak position Italian banks are in when the European Banking Authority (EBA) conducts a stress test. It’s believed that Banco Populare and Banca Monte dei Paschi di Siena will fail to meet the previous stress test levels. What will be interesting, however, is that the EBA will not be setting an official benchmark pass rate in order to avoid further damage to the banks.
When the European debt crisis spawned in 2010, 2011 and 2012, the Piigs nations were the hardest hit. With only Ireland and Spain somewhat recovering, Italy has not been able to. It still suffers from very low economic growth, despite low interest rates and aggressive lending, which is mostly to the elite and well-connected.
Unfortunately for Italy, it has experienced two lost decades. Some fear an economic recovery won’t happen until around 2025. The International Monetary Fund (IMF) noted that Italy needs to repair its banks and fix an array of other matters.
“Downside risks arise from delays in addressing bank asset quality, intensified global financial market volatility – including from Brexit, the global trade slowdown weighing on exports, and the refugee influx and security threats that could further complicate policymaking,” the IMF gloomily noted. “If downside risks were to materialise, regional and global spill overs could be significant, given Italy’s systemic weight.”
Italy is now mulling over two solutions: a bailout from the EU or a bail-in. The former seems to be opposed by several member nations, while the latter could have serious political consequences. However, using the public’s money to save the banks isn’t completely alien to politicians.
As Quartz magazine writes:
“But if Italy bails out the banks, it could to drag tens of thousands of ordinary Italians into the mess, too.
“That’s because, in Italy, ordinary savers have historically bought bank bonds pitched to them as safe places to park their cash, akin to the relative safety of government bonds. The origins of this practice go way back in the history of a country where banking is tied closely to local communities (paywall).”
In any event, Italy may have zero choice because the Atlante Fund, the government’s initiative to meet minimum capital requirements and purchase non-performing loans, only has $2.5 billion left in the piggy bank, which isn’t enough to rescue the banks. So bondholders and creditors would take a loss, and potentially depositors could face a haircut similar to Cyprus and Greece.
“The resolution (using the SRM) of four smaller Italian banks late last year saw loses imposed on retail investors and caused tragic suicide with a resulting high political cost,” Michala Marcussen from the French investment bank Societe Generale noted.
“Such a scenario is one that Prime Minister Renzi is understandably keen to avoid replaying. At the same time, Renzi’s European partners are also keen to protect the credibility of the new SRM.”
Many are now warning that Italy’s problems could spread to the rest of the continent’s big banks. Although it seems Brexit is taking the blame, the bad debts and terrible loans are the primary problem, which had piled up since before Brexit talks even began.
The European bond bubble is slowly popping.
The EU is a sinking ship. No wonder why Britain wanted to abandon ship and steer its own course. The EU may have its own TARP, or the Troubled Asset Relief Program, in the coming months, which was very unpopular with most Americans. Do people still want to stay in the EU?
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