Europe’s credit crunch: James Saft

May 1, 2012

By James Saft

(Reuters) – Europe looks to be entering a credit crunch, with loans harder to get and those that are made coming on tougher terms.

Strikingly, banks are being tight despite falling demand for credit, pointing to a nasty interaction between the economy, its banking system and the choices of wary and indebted households and companies.

That this is all happening despite the massive efforts of the European Central Bank, which twice recently has made extraordinary amounts of nearly free money available to the banks, tells the grimmest tale of all.

As for the future, European banks still have hundreds of billions of capital to raise, implying that even when demand for credit returns, the unbalanced recession in the euro zone might be extended by continued tough loan market conditions.

Bank lending to euro-area companies in the real economy fell again in March, declining by 5 billion euros, an increase on February’s 2-billion-euro contraction, according to data released by the ECB on Monday. Banks instead took some of the inexpensive 3-year money they accessed from the ECB and increased their loans to governments by 29 billion.

That’s a decent, if painfully slow, way to allow banks to rebuild capital and nations to stay afloat, but it won’t work very well if economies contract in the meantime, as Spain’s dwindling GDP demonstrates.

If the bank loan drought was happening in the U.S., with its highly developed capital markets and ample cash sloshing around, this would be poor news; that it is happening in Europe, which remains highly dependent on bank funding for job growth and capital investment, is all the more concerning.

Interestingly this is not simply a story about timid banks which need to rebuild capital levels; there seems to be a bit of a turning away from credit by borrowers, doubtless because they see weak growth for their goods and services.

An April survey of bank lending conditions by the ECB showed falling demand for loans even as banks made them harder to get and sometimes more expensive.


More small and medium-sized companies are being turned down and loan conditions, while not as bad as in the aftermath of the failure of Lehman Brothers, have tightened.

This doesn’t make the ECB’s LTRO a failure, but it does show how little of the more than 1 trillion euros in three-year loans the ECB doled out is actually hitting the real economy. One easy conclusion: we’ve not seen the last extraordinary attempt to hose out the banking stables. It might be another LTRO, or it might be another “bad bank” to eat the sins of the “good” banks, but the current trajectory really can’t be allowed to continue.

At least on the credit supply side, none of this is going to improve any time soon. An April report from the Bank for International Settlements gave a broad and sobering indication of roughly how much capital banks globally need to raise.

Large, internationally active banks, about one fifth of which are European, would need to raise almost a half a trillion dollars to meet recommended new capital targets under the Basel III plan. That’s nearly one and a half times their annual profits, so no easy task. While the study did not break down the results by country, it’s reasonable to assume many euro zone banks are among those with big capital needs.

As it will be very difficult to raise the required amount of capital, especially in the midst of a slow-moving but profound crisis, banks are likely to try to dispose of assets. That will put even more pressure on credit availability.

It is unclear what will break the self-reinforcing cycle between Europe’s credit crunch and its recession.

(James Saft is a Reuters columnist. The opinions expressed are his own)

(Editing by James Dalgleish)

(At the time of publication, Reuters columnist James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. For previous columns by James Saft, click on)

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