News Analysis: Europe Seems to Agree on Recapitalizing Banks — but How?

That seems to be the view European leaders are finally coming around to, but whether the politicians can make it happen in a convincing manner is another question — especially given that Germany and France are already divided.

Analysts are skeptical that even the richest countries will be able to agree on guidelines for a broad, coordinated effort, one impressive enough to remove all doubts about solvency in the event of a default by Greece or another sovereign debtor.

In the first signs of a split, France wants to draw on the European bailout fund, the European Financial Stability Facility, to rebuild bank capital. German leaders think national governments should take the lead.

“Only if a country can’t do it on its own should the E.F.S.F. be used,” Chancellor Angela Merkel said Friday.

But the sums required to armor banks against losses on government bonds — up to €300 billion, or about $400 billion, by some estimates — could jeopardize France’s top-notch credit rating. That would be a big political setback for Mr. Sarkozy before the elections next May.

These kinds of arguments are just what economists fear. A parochial approach will lead countries to try to seek advantage for their own institutions, as has often been the pattern in the past, critics say. In addition, most large European banks have extensive operations and therefore require pan-European oversight, they argue.

“You need to have a European approach, which is tremendously difficult politically,” said Nicolas Véron, a senior fellow at Bruegel, a research organization in Brussels. “If it doesn’t happen, I am not very optimistic about the ability of European authorities to keep the crisis under control.”

Indeed, when Fitch Ratings cut Spain’s credit rating Friday by two levels, to AA- from AA+, it cited the “intensification” of the debt crisis along with slower growth and shaky regional finances, Bloomberg News reported. Fitch cited similar reasons for also downgrading Italy one level to A+, while maintaining Portugal at BBB-, saying it would complete a review of that ranking in the fourth quarter.

Meanwhile, grave problems at the French-Belgian bank Dexia, which is on the verge of its second taxpayer-financed bailout in three years, have dashed any illusions about the health of European banks. It was only in July that Dexia breezed through an official stress test that was supposed to expose the vulnerable banks.

It has become obvious that restoring the soundness of European banks is fundamental to resolving the debt crisis, and removing a serious threat to the global economy. Christine Lagarde, managing director of the International Monetary Fund, has been urging a wholesale recapitalization for several months. In the United States, President Barack Obama warned Thursday that “the problems Europe is having right now could have a very real effect on our economy.”

But no one has provided even rough details of how to compel banks to raise money on open markets if they can, and to provide government funds if they can’t.

“Our experience is that if no one is talking about the details of something, it is because they do not exist,” Carl Weinberg, chief economist of High Frequency Economics, wrote in a note to clients Friday. “Let us just agree that there is no plan.”

Mrs. Merkel and Mr. Sarkozy are expected to discuss the issue when they meet in Berlin on Sunday, along with their finance ministers. The European Commission, the bloc’s executive, expects to produce its proposal for a coordinated recapitalization within a week.

Even if Dexia proves to be an isolated case, it is clear that investor confidence in the solvency of European banks is at a low ebb. European banks are reluctant to lend to each other, and U.S. lenders are reluctant to lend to European institutions. Banks have been unable to sell bonds to raise money.

Article source: http://www.nytimes.com/2011/10/08/business/global/europe-seems-to-agree-on-recapitalizing-banks-but-how.html?partner=rss&emc=rss