Paralysis strikes euro zone banks

Reuters

People applaud as German Chancellor Angela Merkel (C) leaves a conference of the German Foundation of Family Businesses in Berlin on June 15. Picture: Reuters/Thomas Peter

A growing number of European countries are being squeezed by a financial vice just days before a Greek election that could escalate the region’s political and economic turmoil.

The rise of Italian and Spanish borrowing costs to alarming levels on Thursday heaped pressure on leaders to prevent Europe’s debt crisis from engulfing its largest countries. No grand solution appears imminent.

German Chancellor Angela Merkel opposes solutions that many experts are pushing that would increase costs for Berlin.

Merkel has found herself isolated from the leaders of Spain, Italy and France, who want the 17 countries in the euro currency union to move quickly to bind their governments’ finances and debt.

Such action could take the form of jointly issued debt or European-wide guarantees on bank deposits. Either step would spread the risks that individual countries bear across the euro zone.

Italian Premier Mario Monti has agreed with French President François Hollande on the need for such measures. But Germany, which as Europe’s largest economy bears most of the cost of bailouts, is reluctant to expose itself even more.

The proposed steps are expected to dominate talks at next week’s summit of the Group of 20 leaders in Mexico.

Compounding the debt crisis is the fear that’s gripped European banks about lending to each other – a key element of a stable banking system.

“The European banking system is paralysed,” said Nicolas Veron, senior fellow at the Bruegel think tank in Brussels.

“Many banks hold massive amounts of Spanish and Italian government bonds that are losing value. We no longer have a functioning interbank (lending) market in the euro zone.”

The Institute of International Finance called for some co-ordinated action yesterday by major central banks to address the crisis.

And Britain’s Treasury chief said the government and the Bank of England would launch an emergency bank lending plan to try to ease credit. Britain isn’t in the euro currency union, but British banks have been wary of lending in part because of worries about the fate of the euro zone.

Experts warn that the need for a solution is urgent and that European leaders must signal to investors soon that a consensus is forming around some plan. They note how fast fears about Spain have spread to Italy. Matters could worsen this weekend, when Greece holds elections that could determine whether that country sticks to the terms of its bailout.

Abandoning the bailout deal would probably require Greece to leave the currency union, bringing uncertain consequences for Europe and the global economy.

“We’re at a tipping point,” said Michael Hewson, a senior analyst at CMC Markets. “You either have to deliver or disband.”

Any major steps to ease Europe’s debt crisis must meet Berlin’s approval. So far, Merkel has balked at anything that might heavily expose Germany to other countries’ financial weaknesses.

Merkel has long favoured austerity as the best way for European governments to heal their public finances. But that stance is under fire, with sentiment in Europe shifting toward seeking ways to foster growth.

Merkel stressed on Thursday that nations that have needed bailouts must work to restore trust in their public finances. She’s unlikely to agree to allowing greater government spending to spur growth. But she might be open to allowing some countries to slow their pace of spending cuts.

She said that Germany was open to wide-ranging reforms – such as eurobonds or a centralised banking authority with the power to bail out banks. But she cautioned that there was no quick fix for the crisis. –

Sapa-AP