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Silvia Quandt & Cie. AG, Merchant & Investment Banking: In-between the lines - Bernhard Eschweiler
Silvia Quandt & Cie. AG, Merchant & Investment Banking / Schlagwort(e): Sonstiges/Sonstiges
- Cross-border bank lending surged prior to crisis, especially to the US and PIIGS
- European banks were biggest lenders and are now pulling out everywhere
- Euro-area periphery is hit hardest, while US activity is already recovering
Financial markets have been choppy over the last two weeks with a clear downward bias. The ongoing crisis in Europe, especially Greece and Spain, as well as negative economic news, notably the latest round of flash PMIs have undermined sentiment. However, there is also hope that China will boost growth with a new stimulus package and that Greece will make it at least until the election, thanks to the EUR18 billion bank capital injections. Overall, we remain optimistic that the global economy will stay on track. We also expect that Spain will soon have to swallow its pride and seek bank recapitalization support from the EU and the IMF, whether direct or indirect. What happens in Greece after the election, however, is anyone's guess.
Clear is that patience is running out and that the Greeks will have to decide and then live with the consequences. Less clear is whether Euro leaders have thought through the consequences should Greece leave. The risk of market attacks has probably declined, but the risk of deposit flight in other crisis economies has increased. Large-scale deposit withdrawals in the periphery are a real threat for the Euro and require large-scale countermeasures. The ECB has the means to act, but more will probably be needed, such as deposit guarantees through the ESM. However, that will require a broader mandate and more funding for the ESM. We can continue to speculate what will happen, but like to use the remainder of these two pages to take a look at the BIS international bank lending statistics, which illustrate the boom and bust of Europe's credit cycle.
Pump, pump, pump . peng!
A key feature of the 10 years prior to the financial crisis was the massive extension of credit. The buildup of leverage, especially in the US and Europe, is well
documented. Less researched is the role of cross-border banking. The quarterly BIS international banking statistics provide fascinating insight into the development of cross-border lending activities before and after the financial crisis (see table above).
In the ten years prior to the financial crisis, international claims by BIS reporting banks increased by about 4.5 times. As a share of global GDP, cross-border credits nearly tripled between 1999 and 2008. To be sure, the surge in cross-border banking activity is largely the result of the globalization in banking. Banks are setting up branches in other countries, taking deposits and making loans, as well as lending each other cross border. On the other hand, the globalization of the banking sector facilitated the build-up of leverage. The largest increases in cross-border bank lending occurred in the US and Europe, especially the PIIGS countries. Europe had traditionally a higher level of cross-border banking activity, due to the role of London as an international banking and money market center. Nevertheless, the introduction of the Euro seems to have given cross-border banking activities within the Euro-area a big boost. For example, more than three quarters of the foreign bank claims in the PIIGS countries prior to the financial crisis came from European banks.
The regional differences in cross-border credit growth are best illustrated when compared with GDP. In the US, cross-border credit increased by nearly 40% of GDP between 1999 and 2008. Despite the large increase, total claims by foreign banks stayed below 50% of GDP. In Europe, especially the PIIGS countries, cross-border credit increased by about 70% of GDP to reach levels of 100% of GDP and higher. In the rest of the world, cross-border credit increased by just 10% of GDP to about a quarter of GDP. What followed the credit boom is largely history. Nevertheless, there are interesting regional differences.
- Europe, especially the PIIGS, have been hardest hit. For Europe as a whole, cross-border bank lending dropped by more than a quarter between 2008 and 2011. Foreign bank claims in the PIIGS plunged by more than 40% (Greece was down nearly 60%) and all evidence suggests that the decline continues this year. The withdrawal of cross-border bank lending has been most visible in the interbank market. On a net basis, more than EUR800 billion were withdrawn from the PIIGS. The resulting funding gap could only be closed through ECB liquidity operations.
- In the US, claims by foreign banks initially dropped by 20%, but started to recover a year ago and are now less than 10% below the 2008 peak level. The difference to Europe clearly shows that the US has managed to restore confidence in the banking sector.
- In the rest of the world, which comprises mostly the emerging markets, cross-border lending continued to increase after the crisis. Over the last three years, foreign bank claims rose by 12% and also as a share of GDP.
Who's turning off the tabs?
The BIS statistics also provide some insight into the origins of the cross-border bank claims, although with less detail. European banks have been by far the largest
providers of cross-border loans (more than two thirds of all cross boarder lending before the crisis). European banks are still the largest foreign lenders, but their share has declined notably. European banks have reduced their foreign exposures across all regions, but most severely within Europe, especially the PIIGS countries. German followed by French banks have been reducing their exposures the most. The reduced exposure to the US is probably the result of European banks' bad experience during the financial crisis. The reduction of loans to the rest of the world, however, is a sign that many European banks have funding problems and are forced to reduce even good business activities.
In contrast, US banks have increased their foreign exposure, although from much lower levels. The increased cross-border lending activity by US banks is a sign of better health as well as Fed liquidity pushing US banks to seek higher returns abroad. The rise in US bank lending to Europe is mainly directed to the UK and the strong Euro members, notably Germany. In the rest of the world, banks have increased their foreign claims modestly. Lending to Europe has dropped markedly, but lending to the US has increased. Cross-border lending within the rest of the world has also increased, although levels are still low, given the growing importance of these economies and intra-regional trade as well as the rise of emerging markets banks. In our judgment, this will change a lot going forward.
This analysis was prepared by Bernhard Eschweiler, Senior Economic Advisor, and was first published 1 June 2012, Silvia Quandt Research GmbH, Grüneburgweg 18, 60322 Frankfurt is responsible for its preparation. German Regulatory Authority: Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin), Graurheindorfer Str. 108, 53117 Bonn and Lurgiallee 12, 60439 Frankfurt.
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Frankfurt am Main, 01.06.2012
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