European Banks’ Deleveraging Mechanics
After previously ruing the ramifications of cross-border bank rebalancing for emerging Europe, the April edition of the IMF’s Global Financial Stability Report cited a specific figure of $2.5 trillion or 7 percent of total assets on near-term deleveraging to meet business and regulatory objectives. One-quarter of balance sheet shrinkage will come from lower lending and the remainder from securities and other portfolio sales, with a baseline assumption of 2 percent European credit withdrawal which could cause “serious damage” if broad and simultaneous. 80 percent of the cuts have already been detailed in large bank group plans prepared for shareholders and the EBA to attain prudential and return standards. On a geographic basis Asia and Latin America are included in pullbacks, while wholesale segments like commodity, project and trade finance also fall under the hammer. In late 2011 euro-area banks slashed emerging market lines almost 10 percent according to the BIS, and in contrast with the post-2008 crisis the shift may now be structural and “persist for a longer period” the Fund believes. It notes on the positive side that export credit has held up globally with Chinese and Japanese institutions in particular filling the recent gap. Emerging EU members will see a 5 percent drop in private credit over the next two years at a delicate juncture where currency depreciation and high foreign ownership of local debt already pose vulnerabilities. Sovereign debt troubles there could bring systemic risks to Austrian and Belgian parents and magnify capital flow volatility in other regions, the review warns. Brazil, China and other destinations are in “advanced stages” of their own credit booms with 20 percent-plus annual growth requiring internal industry and monetary policy adjustments which would be complicated by external shocks. Their government instruments may eventually enter the worldwide “safe asset” category which has narrowed 15 percent or $10 trillion with OECD country downgrades and the collapse of the securitization market. In developing economies bank holdings of state paper can be at 20 percent of the overall portfolio whereas only Japan has such concentration among industrial powers. Lagging size, infrastructure and legal recourse remain impediments to achieving haven status as emerging market financial depth is still just 20 percent of the global total although the GDP portion is twice that amount.
To challenge the latest ratings direction European officials have called for launch of a new agency under their auspices while Germany’s Bertelsmann Foundation has designed a blue-print for a non-profit alternative that would be operated in all regions drawing on an initial $400 million endowment. It would apply traditional creditworthiness alongside a series of proprietary governance and transformation indicators that could better define sovereign grading as a public good after another burst of bad private determination.
