The Credit Crunch: Banking Crisis Leaves Europeans with Bill in the Billions

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This week Europe has fallen deeper into the credit crunch. With multi-billion euro bailout packages, Germany, Britain and the Benelux states have saved banks from collapsing.

Hypo Real Estate, Fortis, Bradford & Bingley. Three European banks nearly collapsed in the course of just two days on Sunday and Monday, showing that the Wall Street financial crisis is pulling European companies into its pincers at an ever-faster clip. With trust between banks waning, analysts believe Europe is threatened with a serious credit crunch.

The logos of Europe's crisis banks: The crisis is accelerating here and pulling an increasing number of institutions into its pincers.
AFP

The logos of Europe's crisis banks: The crisis is accelerating here and pulling an increasing number of institutions into its pincers.

In order to protect the financial system from collapse, governments across Europe are being forced to intervene. Britain, Germany, Belgium, Luxembourg and the Netherlands all began spectacular rescues at the start of the week:

  • the British government nationalized large parts of mortgage lender Bradford & Bingley on Monday, taking over some €63 billion ($90.6 billion) in bad loans;

  • in Germany, the government is providing a massive loan package together with a consortium of banks to prevent the collapse of the Munich-based Hypo Real Estate.

The latest wave of bad news indicates the crisis could hit Germany and Europe harder than politicians previously believed. "The effects of the financial crisis in Germany will be greater than initially expected," Dagmar Wöhrl, a senior official in the German Finance Ministry told SPIEGEL ONLINE.

The budget committee of Germany's federal parliament, the Bundestag, is expected to address the financial market crisis in a special meeting on Tuesday afternoon. SPIEGEL ONLINE has learned from sources close to the committee that Finance Minister Peer Steinbrück, as well as Axel Weber, president of Germany's central bank, the Bundesbank, and Jochen Sanio, president of German financial services regulator BaFin, have been asked to attend.

The most important item on the agenda at what is expected to be a closed-door meeting is state guarantees being used to bailout Hypo Real Estate. Inside sources say up to €35 billion is needed for the rescue operation. The Finance Ministry says the state guarantees will be comprised of two parts. A consortium of banks will assume responsibility for 60 percent of the first part of the bailout, which will total €14 billion, and the state will provide 40 percent. The second part of the bailout will be comprised of a €21 billion guarantee provided solely by the government.

Without the government guarantee, Hypo Real Estate would be unable to pull together the money it needs to recapitalize itself. But if it is unable to pay back the loans, taxpayers will be stuck with the costs.

Further German Banks Threatened

It's also possible that Hypo Real Estate's near bankruptcy will not remain an isolated case for long. Hans-Peter Burghof, a banking professor at Germany's University of Hohenheim, warned that the crisis could quickly spread to other banks. "If you look at the current mechanisms, the crisis is still accelerating and its effects are increasingly being felt in Europe and Germany," he said. His colleague Thomas Hartmann-Wendels, a banking expert at the University of Cologne, also spoke of "numerous factors" that are spurring the crisis in Europe.

  • European and German private banks are being forced to write-off billions of euros in from securities portfolios linked to the US subprime crisis.

  • European banks also provided bankrupt Lehman Brothers with credit that, for now at least, is lost.

  • Through the collapse of numerous financial institutions, an atmosphere of mistrust has emerged in the money markets, making it harder for European banks to refinance themselves. They are lending each other less money and interest rates for interbank loans are rising. These conditions led to the near collapse of Hypo Real Estate.

  • The downward spiral in European stock markets is also causing an increasing number of bonds to lose value. As that happens, investors are flooding the market with new issues, creating an oversupply that is causing prices to sink even further. That, in turn, is forcing all banks that have those bonds in their portfolios to accept even further write-offs.

Burghof and Hartmann-Wendels believe these factors pose a serious risk for Europe.

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