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global economy, sub-prime mortgage crisis
Bernd Kammerer/AP
European Central Bank, ECB, in Frankfurt, central Germany.

Europe Trying to Fight off U.S. Financial Bug

October 02, 2008 02:15 PM
by Anne Szustek
Several European countries have injected capital into private banks to keep them afloat. Now EU regulators are proposing a move to inoculate them against America’s ailments.

EU Banks Get Government Capital, Face Tighter Lending Rules

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The European Commission proposed Wednesday to update bank lending regulations in an effort to limit fallout from the spreading U.S. economic crisis.

If adopted, the new guidelines would set a cap on how much EU banks can lend to any one party. In addition, any bank that sells securitized debt—including securities backed with bad mortgage debt—would have to split the risk with buyers, by keeping a stake of at least five percent in the commodity being sold.

“These new rules will fundamentally strengthen the regulatory framework for EU banks and the financial system,” Charlie McCreevy, internal market commissioner for the European Union, said in a statement.

The proposal is only the latest among several moves to bolster banks taken within the past week by authorities in the 27-country bloc. Some individual EU members have taken a more radical approach, with some member states acting to take over or “nationalize” banks that are struggling during the credit crunch.

The U.K. government announced this past weekend the nationalization of Bradford & Bingley’s £50 billion ($91.8 billion) in mortgages and loans, and the sale of its £20 billion ($36.72 billion) savings division to Abbey, a British subsidiary of Spanish banking titan Santander.

British Prime Minister Gordon Brown told the BBC that the decision to act on B&B showed the government would “do whatever it takes to ensure the stability of the UK financial system.”
Earlier this year, Britain took over another failing bank in its first nationalization in decades, when mortgage lender Northern Rock began toppling under bad debt. On Feb. 17, 2008, U.K. Finance Minister Alastair Darling announced the government’s decision to nationalize Northern Rock, along with proposed measures authorizing the Treasury to take over any other banks failing within the next year. Northern Rock had suffered heavy losses following the sub-prime mortgage crisis in the United States. In September, the bank had seen Britain’s first run on deposits in over a century.

EU Members Dole out Cash to Struggling Banks

Several EU countries have come up with major infusions of capital to shore up ailing banks. Six major Irish banks will receive a total of €400 billion ($582.54 billion) in financial protection from the Irish government over two years, following a massive sell-off of shares on Monday.

On the Continent, Brussels-headquartered bank Dexia is slated to get €6.4 billion ($9.32 billion) from three European governments: €3 billion each from Belgium and France, with the remainder from Luxembourg. The capital injection came a day after the bank, the world’s largest lender to local governments, saw its shares drop 30 percent during Monday trading.

Belgium and Luxembourg, along with the Netherlands, gave €11.2 billion ($16 billion) in capital to Belgian-Dutch bank and insurer Fortis. The three Benelux governments are to become combined shareholders of some 30-40 percent of the bank. Fortis also plans to sell its stake in the Dutch bank, resulting in the bank’s becoming partly nationalized.

Germany’s Deutsche Bank was cleared by the EU on Wednesday to take over Fortis’ stake in Dutch lender ABN-Amro, which it bought last year during a break-up bid. Two other major stakeholders in ABN-Amro are Royal Bank of Scotland and Santander—the same bank that’s buying up B&B.

Non-EU member Iceland nationalized 75 percent of bank Glitnir, one of the country’s three largest banks. The country’s financial sector as a whole is plagued by heavy external leveraging. Credit ratings agencies Fitch and Standard and Poor’s downgraded Iceland’s sovereign credit ratings following Glitnir’s nationalization. Fitch also downgraded Glitnir’s rating, as well as those of two other leading Icelandic banks, Landsbanki and Kaupthing Bank.

Background: Shaky global markets threaten former ‘tiger’ European economies

Until recently, Ireland and Iceland had been held up by global economic observers as examples of Europe’s “tiger” economies. But following a decade of steady growth, Iceland’s economy now resembles a “toxic hedge fund,” as British paper The Guardian put it. The country has borrowed large amounts of foreign exchange to shore up infrastructure at home.

Ireland was declared officially in recession last week when the country’s Central Statistics Office showed negative financials for the second quarter in a row. The two leading factors weighing on Ireland’s economy are decreases in real estate investment and consumer spending. The country is also facing brain drain, as immigrants to the economy that boomed over the past 20 years are returning to their home countries to take advantages of burgeoning opportunities in their own emerging “tiger” economies.

Now, Iceland is wrestling with a cheapened currency, double-digit interest rates and a cinched credit market that make the developed country resemble an emerging-market nation. The country has some $97 billion in foreign debt—proportionally one of the highest in the world.

Fellow Scandinavian countries Denmark, Norway and Sweden extended a €1.5 billion ($2.35 billion) credit line to Iceland in May. Other foreign-prescribed remedies for the country include the Organization for Economic Cooperation and Development’s recommendations that Iceland cut back on spending for its extensive state health care system.

Historical Context: Previous British nationalizations

The United Kingdom has had its share of nationalizations, both within the past year and over the past half-century.

Northern Rock has not shown positive financials since its government takeover. In August the bank reported first-half net losses of £592 million, or some $1.12 trillion, for the first half of 2008. Its net income was approximately negative $73.71 million, and it announced plans to lay off 1,300 employees in July.

In 1971, the U.K. government under Conservative Party Prime Minister Edward Heath nationalized Rolls Royce after it filed for bankruptcy. The development of the company’s new RB-211 engine was proving too lengthy and costly, and questions remained as to the viability of its longstanding contract with Lockheed. The car production unit would be spun off into its own company in 1973.

What was left of the company, namely its aviation division, was privatized in 1986 during the tenure of Conservative Prime Minister Margaret Thatcher. The Rolls Royce auto brand is currently owned by German carmaker Volkswagen, who bought it in 1998. Rolls Royce, as in the aviation parts company, is still independent, and is the world’s second-largest producer of aircraft engines after General Electric.

On the flipside, British Leyland, a collective group of British car makers established by the Labour Party in the private sector in 1968 and taken into state control in 1975, was dubbed by the BBC “one of the biggest disasters in the history of nationalization.” Before Leyland had been taken into government control, it had become evident that the conglomerate was struggling to compete against international car brands. After Britain took British Leyland into control, the company’s share of the market continued to dwindle. Car makes known traditionally to be British, such as Jaguar, MG and Aston Martin, are now all under ownership by foreign companies.
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