Past a possibly messy Brexit & elections in France and Germany
by Don Quijones, Wolf Street:
Senior bankers in Spain and Italy can breathe a collective sigh of relief after Europe’s finance and economic ministers decided on Friday to postpone, for at least 18 months, a decision on setting a limit on the government bonds some banks can hold as eligible “risk-free” capital. It was one of four things keeping Spanish senior bankers awake at night. Now, they can sleep a little sounder.
The initiative, initially proposed by the German government and supported by other fiscally hawkish governments such as Finland and the Netherlands, was intended to limit the purchase of public debt by banks, in order to break the vicious cycle of co-dependence that now exists between sovereign and bank risk.
If allowed to happen, the move could have posed a very serious threat to the balance sheets of many banks on the Eurozone periphery. According to European Central Bank data, euro-area sovereign bonds accounted for over 10% of banks’ assets in the Eurozone, or €2.73 trillion ($3 trillion), at the end of 2015 — over €300 billion more than at the end of 2014, on the eve of the ECB’s launch of its negative interest rate policy (NIRP).
This trend is particularly acute in countries like Portugal, Spain, and Italy, where banks’ balance sheets are filled to the gills with bonds of their individual sovereigns — all considered “risk free” for regulatory reporting. Just the merest suggestion of loosening the chains of interdependence between sovereigns and banks was enough to set off shrieks of panic in the halls of government and banking C-suites of Madrid, Rome, and Lisbon.
“Let’s be very careful about translating into practice rules that look nice on paper,” Italian Finance Minister Pier Carlo Padoan warned, adding that any such rules could lead to a sell-off and “instability”. Padoan’s sentiments were echoed by Santiago Fernandez de Liz, the chief economist for financial systems and regulation at Spain’s second biggest lender, BBVA, who cautioned that applying a proposal of this kind in the Eurozone would “reignite the fragmentation” of Europe’s financial markets.
The threats appear to have worked, prompting Ecofin to announce that it would first wait for the findings of the Basil Committee, to be held in 2017, before reaching any definitive decision regarding the regulatory treatment of sovereign debt. None of this should come as a surprise, with the Fed, the Bank of Japan, and the Bank of England all vehemently opposed to Germany’s proposal.
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