• Italy’s banking system is a disaster…
Financial Times reported last week:
The amount of gross non-performing loans held by the [Italian] banks increased 85 per cent to €360bn in the five years to 2015…
The total stock of bad debts — the most distressed part of the pile — more than doubled over the same period.
Non-performing loans, or “bad” loans, are loans that trade for less than book value.
According to Financial Times, non-performing loans currently make up 18% of all of Italy’s loans. To put that in perspective, U.S. banks had a non-performing loan (NPL) ratio of 5% at the height of the 2008–2009 financial crisis. In short, Italy’s banking system is sitting on a keg of dynamite.
Yesterday, The Wall Street Journal explained how Italian banks got themselves into this mess:
Bad loans have grown at the astounding pace of €50 billion ($55.05 billion) a year since the 2008-09 financial crisis as banks resisted writing down bad assets. Banks and policy makers awaited a strong economic recovery that would allow debtors to repay more of their loans while providing banks greater profits to cushion write-downs. The recovery didn’t materialize, and the money injected into banks, up to €80 billion, via periodic market recapitalizations quickly dissipated as bank profitability stagnated due to an inefficient, fragmented financial system and near-zero or negative interest rates.
• In other words, Italy’s banking system has three big problems…
1) The banks never recovered from the financial crisis. 2) Italy’s economy isn’t growing. And 3) negative interest rates are killing Italian banks.
Dispatch readers know negative rates are a new radical government policy. They basically turn your bank account upside down. Instead of earning interest on your money at the bank, you pay the bank to watch your money.
The European Central Bank (ECB) introduced negative rates two years ago, hoping this would “stimulate” Europe’s economy. Today, the ECB’s key rate is at -0.4%. That means European banks must pay €4 for every €1,000 they keep with the ECB.
That might not sound like much. But it’s a huge problem for European banks that oversee trillions of euros. According to Bank of America (BAC), European banks could lose as much as €20 billion per year by 2018 if the ECB keeps rates where they are.
—-
Much worse than that of 2007–2009. Governments, who are all bankrupt, borrow money from commercial banks. Commercial banks have lent it to them because they believe it’s a risk-free loan. Governments encourage them to lend recklessly, hoping that will jump-start sluggish economies. Central banks, which are the arms of their governments, have taken interest rates to zero and below for that reason and to make it easier for governments to service their debt. This policy has encouraged businesses to take on debt.
It’s an idiotic and reckless experiment that will end—likely in this cycle—with bankrupt central banks and governments bailing out bankrupt commercial banks and businesses. Just the way they did in 2007–2009. Except this time, the situation is much more serious.