Bailing out Banks - biggest Ponzi scheme of them all?

*The banking bailout dilemma continues, equity markets ignoring it - for now

According to The Daily Telegraph, an alledgedly "confidential" document from the European Commission in Brussels states the European banks may need a 18.6 Trn Euro bailout.
Further on, the EC estimates "impaired assets" to amount up to 44% of EU banks balancesheets.


*Further valuation fudging expected to be sanctioned vs straight mark to market approach
With EU officials later this month devising ways to evaluate "toxic assets" and new initiatives to bail out banks to be taken at an EU emergency meeting at the end of February, I am not expecting any conclusions even close to my G7/G20 "wish list " from yesterday, see http://todaysmacrotrading.blogspot.com/2009/02/subsidiesprotectionismcompetitive.html

This is really bad news. Without sorting out the "Bad/Toxic assets" once and for all, this recession will increasingly run the risk of developing into a depression.
As banks continue to slice their creditlosses, it will take a very long while, if ever, until all credit and other losses are taken. Most likely, governments will instead opt for continued fudging, extending the recession, putting a lid on the economy as losses are sliced out, "Japanese style" and in the end leaving taxpayers footing a much bigger bill than necessary. This will instead lead to further widening of CDS and sovereign bond spreads, devaluing the national credit guarantees in the process and increasing the risk for sovereign defaults.


The Euro area and the PIIGS countries further complicates the issue since they will hardly have any fiscal resources to succeed with any such bank bailout programme without risking sovereign default. So, who will finance all of it in the end? The IMF? Who will fund the IMF going forward? Cant help but getting a feeling that it will all be about applying for help first, since there will be substantial issues and shortages in raising this amount of capital for all banks and countries involved. Remember, this is "only" the EU area.

Who are at the most risk then?
Well apart from the PIIGS countries, there is of course also the CEE, Russia, the Baltics, Ukraine, Turkey, etc



*Foreign bank claims into the CEE, Baltics, substantial

In many of these countries and regions, foreign banks vastly dominates the banking system and thus owns the credit risks as well. This will most likely have severe repercussions into the "homecountries" of these banks. According to BIS, the claims by Austrian owned banks are equivalent to 20% of annual GDP in the Czech Republic, Hungary and Slovakia. Claims of Swedish owned banks on the Baltic states are equivalent to 90% of their combined GDP.

Obviously these foreign banks are severely exposed towards these areas and very much dependent on their developments. On the other hand, these areas are severely dependent on financing from these foreign banks. Any external shocks to these foreign banks leading to a withdrawal of funding threatens the whole financial system in the CEE and Baltic countries, and thus, is a decisive factor from a sovereign default perspective.

Logic dictates that whether shutting off credit to the country in question in order to consolidate a banks finances at "home" or suffering heavy creditlosses in any of the CEE or Baltic countries, will in the end become a burden to the homecountry and taxpayers of the claiming banks. (The CEE and Baltics will fare much worse). In this example, Austria and Sweden.

The size of foreign banking claims into the CEE reached 1.3 Trn Euro with ditto claims into Hungary reaching 66% of their GDP. Over the last few years, the capital flow into especially the CEE and the Baltics have shifted with bond investments dominating over equity and FDI investments.

This makes the situation even more sensitive as bondflows are vastly less stable and fickle than the latter. European banks would have to continue to invest into these areas in order to support these countries. Last fall there was some talk that this would be the case. I very much doubt this is the case now.

The probability has rather increased for banks to withdraw capital leading to a severe creditcrunch, combined with getting hit by severe creditlosses in a deteriorating environment. This will differ from country to country, however, the outlook is decisively gloomy.

Going forward, there will be increased calls for nonprotectionism amongst leading international politicians. I expect there to be a strong consensus for nonprotectionism, but very little substance and even less action. At the end of the day, as pressure increases, many will look to get a comparative advantage. Back to square one as things go downhill.

It would seem it might be time to dip ones toe into bearish bank and currency plays.


As always, good luck




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