Almost exactly a decade ago, Mario Draghi, then the president of the European Central Bank, promised to do “whatever it takes” to save the euro from destruction. At the time, Greece was on the verge of collapse; Italy, the region’s third-largest economy was drowning in debt so bad that it, too, seemed like a candidate to be kicked out of the eurozone.
Today, Mr. Draghi is Prime Minister of an even more indebted Italy, just as a fresh euro-zone crisis is fast approaching. Inflation in Italy and the rest of the eurozone has reached painful levels, sovereign debt yields are rising, economies are going into reverse and the proxy war in Ukraine – is deliberately destabilizing the whole region economically and politically.
Except for this time, there is virtually nothing he can do to prevent another euro calamity in Italy or the European Union. That job will go to his successor at the ECB, Christine Lagarde, the former boss of the International Monetary Fund.
And guess what? The ECB is running out of ammunition to fight the next crisis. Mistakes have already been made, the biggest of which was ditching quantitative easing (QE), which is to end in July, instead of extending it.
The multi-trillion euro problem the ECB will also be forced to address is the continuous growth of non-performing loans. This type of debt crisis is scattered throughout the heavily indebted eurozone. Across much of Europe, and both within and outside of the Eurozone, non-performing loans (NPLs) continue to loom large almost a decade-plus after the 2008-09 global financial crisis.
Banks are nearing a day of reckoning on bad loans despite government measures to ease the blow for borrowers.
Governments’ guarantees, payment holidays, and wage support for workers have delayed the pain for lenders by helping businesses and households through the pandemic.
But the steps are also complicating the picture for Europe’s banks, which are coming under pressure from regulators to assess the real damage to their balance sheets.
However, prolonged government support for hard-hit businesses may further delay the moment that the Coronavirus fallout shows up on banks’ bottom lines.
The EU regulators know that a spike in bad loans is coming regardless, and ideas such as setting up a European bad bank to shift all these bad loans would be a start.
However, the tidal wave of defaults that are coming will not be something that can be contained in one bad bank or for that matter, it will not even be in a single region.
We are already witnessing a Eurozone Debt Crisis 2.0.
A sovereign debt crisis doesn’t just stay on the Governments balance sheet. It spirals throughout the country and impacts the very same banks holding those bonds as collateral for their obligations.
As lenders start to worry, they require higher and higher yields to offset their risk. The higher the yields, the more it costs the country to refinance its sovereign debt. In time, it cannot afford to keep rolling over debt. Consequently, it defaults. Investors’ fears become a self-fulfilling prophecy.
This pending crisis is ten times worse than what happened to Greece, Italy, and Spain more than a decade ago. The debt issues were never solved, just papered over with ECB support by taking on all those liabilities to keep the countries economies from collapsing.
Fast forward, now we have the Euro Zone Debt Crisis 2.0 and the ECB is doing a complete 360 by reversing course while easing off the monetary support. Where does the next line of support come from when the default contagion becomes obvious next?
Depositors! That’s right, you heard me correctly. The millions of savers and investors in the commercial banks have those non-performing loans on their balance sheets.
Most people are familiar with the concept of a bail-out following the global economic crisis when many governments were forced to rescue private institutions. But there’s another term, called a “bail-in,” that might be used as an alternative to a bail-out.
In a bail-in, a bank or other institution’s creditors must write off a portion of its debts to save it from insolvency. An example is the rescue deal for the biggest banks in Cyprus in 2013, which required shareholders and creditors to take on some of the costs.
The difference with that “bail-in” is that the order of creditor seniority changed. In principle, depositors are the most senior creditors in a bank. However, that was changed in the 2005 bankruptcy law, which made derivatives liabilities most senior. In other words, derivatives liabilities get paid before all other creditors — certainly before the depositors.
In the case of the Cyprus bail-in the Financial institutions which at the time were German banks, and central banks including the Bundesbank got full repayment, along with government entities while everyone else got trapped inside the banks.
This is an example of what has already happened once on a small scale. What would make anyone think that this wouldn’t happen again on a regional or global scale?
The ECB and even the Federal Reserve have been preparing for this day since the Great Financial Crisis. That event that sent a shock wave across the global economy was just a warm-up for what I believe is coming.
No one can predict the time of day, but we can all feel the speed of the wind pick up as the monetary hurricane has already touched land. We can see the signs all around us as the bond yield spike, the non-performing loans pile up and the stock market volatility picks up.
By the time the public realizes that this debt crisis is systemic in nature, the banks will not be open for business that next Monday morning. It will be too late at that point and the I told you so’s will not matter at that point. All the signs are here. Another example is a large number of retail banks and ATMs that have closed since the plandemic hit.
This current debt event will be the last of its kind, in my opinion. The probability of the debt-based currency system failing and depositors being trapped in the banks play too well in line with the World Economic Forums’ agenda, “You will own nothing, but you will not be too happy about this either.” You will be pissed, I’m sure of this.
In this case, I am only talking about your finances. There is more to this story, but I will save that for another blog post.
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