06-04-2012, 04:48 PM
THE REAL BANKING CRISIS
Eric Sprott & David Baker
Although the adjacent questionnaire is facetious, it does ask the right questions. If you're a wealthy European depositor today, whatdoyou do with your money? Do you really continue to keep cash in a Greek or Italian bank account?
European bank depositors all face a tough decision today - to withdraw their deposits, or not withdraw and take their chances. Their response to that decision may determine the financial future of the Eurozone. Since 2008, EU Government bailouts have transformed a traditional banking crisis into a full-blown sovereign crisis. The European Central Bank (ECB) has managed to keep the Eurozone banking system going for now, but the constant threat of depositor bank runs makes its future extremely uncertain. A bank run on deposits forces banks to liquidate assets to raise cash. Governments and central banks will go to extreme lengths to avert such a scenario, because a liquidation reveals what an asset is really worth - and they are likely worth far less than what the banks are claiming they're worth on their balance sheets today.
Bank runs have wreaked havoc in Europe over the past three years. In Iceland, it was a UK-led bank run on its second largest bank, Landsbanki, in early October 2008 that led Landsbanki to block over 300,000 UK depositors from accessing their accounts in its online bank called Icesave. Fear of widespread deposit losses compelled the British government to promptly freeze the assets of Landsbanki in retaliation, inciting an effective lock-down of foreign capital in and out of the country.1 You certainly didn't want to have an Icelandic chequing account when that happened - especially considering that the Icelandic Krona proceeded to lose 58% of its value by the end of November 2008.2
In Ireland, it was the withdrawal of almost €4 billion in deposits in less than three weeks that compelled the Irish government to nationalize Anglo Irish Bank in January 2009.3 Large depositors lost faith in the Irish government's bank account guarantee and began to pull their cash out of Irish banks in droves. As a Trinity College Dublin professor was quoted at the time, "This is a nightmare scenario for the [Irish] government… they can't stop further withdrawals from the bank unless we close the borders and turn into Cuba."4
Ireland experienced a secondbank run in late 2010, when more than €67 billion was withdrawn from Ireland-based institutions in October alone.5 Ireland's top six domestic banks, two of which are currently in the process of being shut down, have now lost more than €90 billion in corporate deposits since the crisis began in 2008.6 And the withdrawals continue - in May 2011 it was reported that Irish resident private-sector deposits had declined by 8.7% over the past 12 months.7 Private sector deposits from non-Irish Eurozone residents declined by 9.7% over the same period, while deposits from non-Eurozone residents were reportedly down 28.2%.8 Ireland's experience makes it fairly clear: when depositors sense danger,and they are free to move their money elsewhere - they typically do.
The Irish deposit withdrawals have left Ireland's banks in the hands of the ECB, which graciously bailed the country out back in November 2010, and has now lent Irish banks more than €103 billion as of the end of June 2011.9 This, in addition to the €55.7 billion the Irish banks have received from their own central bank, is amazingly still not enough to recapitalize the Irish banking system, which at the time of writing still requires an additional €24 billion of capital to remain solvent.10
In Greece, bank withdrawals have proven equally as damaging. Greek banks have seen deposit outflows of around 8% thus far in 2011, with an acceleration of outflows in May and June. Moody's recently warned that such flows could cause a "severe cash shortage if they rapidly increased beyond 35% of deposits".11 Last week's €109 billion bail-out suggests that may have already happened.
Just as with Ireland, the ECB has kept the Greek banks afloat, funding them almost €100 billion in 2010 and an additional €103 billion thus far in 2011.12,13 The recent bail-out will buy Greece time, but deposit outflows could still derail the ECB's efforts to save the Greek banking system if they continue unchecked.
Although we don't have the data for Spain or Italy, it does not escape us that those countries' governments are likely highly aware of the effect a bank run could potentially have on their fiscal stability. Italy is a much bigger fish than Ireland or Greece. Its €1.8 trillion of borrowing in nominal terms is more than the debt of Greece, Spain, Portugal and Ireland, combined.14 Italy and Spain are too big to fail and too big to bail-out, so the future of the Eurozone will be seriously compromised if Italian and Spanish depositors take flight with their euros. To that effect, we found it very instructive to read about new provisions that the Eurozone's rescue fund, the EFSF, recently incorporated into the latest Greek bail-out. Included among them is the ability for the EFSF to buy sovereign bonds in the secondary market, give EU states "precautionary credit lines" before they are shut out of credit market, and "lend governments money to recapitalize their banks".15 The sovereign crisis, at its root, is still a banking crisis. The banks hold loads of Eurozone sovereign debt. If depositors withdraw capital, those banks must sell some of those sovereign bonds to stay solvent. The EFSF provisions are there to provide the banks with the liquidity they need to survive deposit withdrawals. The question now is what will happen if the EFSF runs out of the funds to do so.
In our view, the depositors that chose to transfer their money out of their local Eurozone banks deserve some recognition, because they 'get it'. The EU banks are still the root of this problem, and depositors are right to question the security of their deposits held with them. We have always postulated that the real problem in our financial system is too much leverage in the banking system. We are continually reminded of this fact every Friday when US bank failures are released. When you compare the failed banks' assets to the cost the FDIC pays to make their depositors whole, it reveals how many times the banks have lost their equity capital. The key to remember here is that banks lend out our money and keep very little in reserve. If we assume they keep 5 cents of capital for every 95 cents they loan out - a 25% 'implied write-down' in Chart A would mean that the bank has effectively lost its capital six times over.
The banking situation in Europe is no different from that above - EU banks are also highly levered, but their situation is further complicated by the fact that what was once the most liquid and secure loan on European banks' balance sheets - sovereign debt - is no longer liquid and secure. This makes EU banks extremely vulnerable to deposit withdrawals as it forces them to approach the ECB for help to maintain liquidity. There is only so much the ECB can do - if a true 'liquidity event' takes place, we can all rest assured that there will be no buyers of distressed assets in the sizes that European banks hold today, sovereign bonds, or not.
We discuss the EU banking crisis this month to remind everyone that we have very recently lived through two instances where the entire financial system almost collapsed. The first took place during the height of the 2008 crash. The second transpired in May 2010 when the ECB stepped in with its $1 trillion bailout package to avert disaster. All financial bailouts up to this point have been instigated with a desire to avert the first domino from falling. They have been instituted to avert contagion - a total financial meltdown that would effectively turn the global banking system into an Icelandic money trap - where no money can get in, or out.
We still don't know if a financial collapse can be averted in Europe because investors and depositors are not all naïve to reality. The financial malfunction is ongoing and will not be prevented through these continual perverse financial machinations. If Eurozone depositors move their capital - more bailouts will be required, thereby increasing the sovereign debt levels and exacerbating the seemingly hopeless situation that much more.
As the questionnaire above suggests, we believe a growing number of European depositors are transferring their money out of EU banks, and many of them are reinvesting their capital into gold and silver for safety. It does not surprise us to see gold hitting all-time highs in euros and dollars. It's worthwhile to acknowledge that those investors in Iceland and Ireland who had the foresight to convert their cash to gold before their countries' respective bank runs have all fared extremely well in both nominal and real terms. We believe that gold and silver are the ultimate alternative for a chequing account in a vulnerable banking jurisdiction, and whether the ECB prints more euros or eventually defaults, both outcomes will continue to support a robust demand for precious metals as an alternative currency.
THE REAL BANKING CRISIS
http://www.zerohedge.com/news/eric-sprot...is-part-ii
Here we go again. Back in July 2011 we wrote an article entitled "The Real Banking Crisis" where we discussed the increasing instability of the Eurozone banks suffering from depositor bank runs. Since that time (and two LTRO infusions and numerous bailouts later), Eurozone banks, as represented by the Euro Stoxx Banks Index, have fallen more than 50% from their July 2011 levels and are now in the midst of yet another breakdown led by the abysmal situation currently unfolding in Greece and Spain.
On Wednesday, May 16th, it was reported that Greek depositors withdrew as much as €1.2 billion from their local Greek banks on the preceding Monday and Tuesday alone, representing 0.75% of total deposits.1 Reports suggest that as much as €700 million was withdrawn the week before. Greek depositors have now withdrawn €3 billion from their banking system since the country's elections on May 6th, seemingly emptying what was left of the liquidity remaining within the Greek banking system.2 According to Reuters, the Greek banks had already collectively borrowed €73.4 billion from the ECB and €54 billion from the Bank of Greece as of the end of January 2012 - which is equivalent to approximately 77% of the Greek banking system's €165 billion in household and business deposits held at the end of March.3 The recent escalation in withdrawals has forced the Greek banks to draw on an €18 billion emergency fund (released on May 28th), which if depleted, will leave the country with a cushion of a mere €3 billion.4 It's now down to the wire. Greece is essentially €21 billion away from a complete banking collapse, or alternatively, another large-scale bailout from the European Central Bank (ECB).
The way this is unfolding probably doesn't surprise anyone, but the time it has taken for the remaining Greek depositors to withdraw their money is certainly perplexing to us. Official records suggest that the Greek banks only lost a third of their deposits between January 2010 and March 2012, which begs the question of why the Greek banks have had to borrow so much capital from the ECB in the meantime.5 Nonetheless, we are finally past the tipping point where Greek depositors have had enough, and the past two weeks have perfectly illustrated how quickly a determined bank run can propel a country back into crisis mode. The numbers above suggest there really isn't much of a banking system left in Greece at all, and at this point no sane person or corporation would willingly continue to hold deposits within a Greek bank unless they had no other choice.
The fact remains that here we are, in May 2012, and Greece is right back in the exact same predicament it was in before its March 2012 bailout. Before the bailout, Greece had approximately €368 billion of debt outstanding, and its government bond yields were trading above 35%.6 On March 9th, the authorities arranged for private investors to forgive more than €100 billion of that debt, and launched a €130 billion rescue package that prompted Nicolas Sarkozy to exclaim that the Greek debt crisis had finally been solved.7 Today, a mere two months later, Greece is back up to almost €400 billion in total debt outstanding (more than it had pre-bailout), and its sovereign bond yields are back above 29%. It's as if the March bailout never happened… and if you remember, that lauded Greek bailout back in March represented the largest sovereign restructuring in history. It is now safe to assume that that record will be surpassed in short order. It's either that, or Greece is out of the Eurozone and back on the drachma - hence the renewed bank run among Greek depositors.
Meanwhile, in Spain, bank depositors have been pulling money out of the recently nationalized Bankia bank, which is the fourth largest bank in the country. Depositors reportedly withdrew €1 billion during the week of May 7th alone, prompting shares of Bankia to fall 29% in one day.8 The Bankia run coincided with Moody's issuance of a sweeping downgrade of 16 Spanish banks, a move that was prompted over concerns related to the Spanish banks' €300+ billion exposure to domestic real estate loans, half of which are believed to be delinquent.9 The Spanish authorities were quick to deny the Bankia run, with Fernando Jiménez Latorre, secretary of state for the economy stating, "It is not true that there has been an exit of deposits at this time from Bankia… there is no concern about a possible flight of deposits, as there is no reason for it."10 Funny then that the Spanish government had to promptly launch a €9 billion bailout for Bankia the following Wednesday, May 24th, an amount which has since increased to a total of €19 billion to fund the ailing bank.11 Deny, deny some more… panic, inject capital - this is the typical government approach to bank runs, but the bailouts are happening faster now, and the numbers are getting larger.
The recent bank runs in Greece and Spain are part of a broader trend that has been building for months now. Foreign depositors in the peripheral EU countries are understandably nervous and have been steadily lowering their exposure to Eurozone sovereign debt. According to JPMorgan analysts, approximately €200 billion of Italian government bonds and €80 billion of Spanish bonds have been sold by foreign investors over the past nine months, representing more than 10% of each market.12 The same can be said for foreign deposits in those countries. Citi's credit strategist Matt King recently reported that, "in Greece, Ireland, and Portugal, foreign deposits have fallen by an average of 52%, and foreign government bond holdings by an average of 33%, from their peaks."13 Spain and Italy are not immune either, with Spain having suffered €100 billion in outflows since the middle of last year (certainly more now), and Italy having lost €230 billion, representing roughly 15% of its GDP.14
As we've stated before, no matter what happens in the Eurozone, the absolute worst case scenario for the authorities is a bank run. It terrifies all involved, because they can spiral out of control faster than governments can react to stop them, save for the most Draconian measures. They also prompt banks to liquidate whatever assets they can, revealing the truth about what their "assets" are actually worth. In this environment, no one wants to find out what the market will really pay for them. We're seeing this now in Spain, where according to Bloomberg, "Many Spanish banks are avoiding property sales so they don't have to "mark to market" valuations. Instead, they're giving developers new loans to pay debt coming due to prevent defaults."15 Sound familiar? We're now at the point where a bank run in one Eurozone country could quickly seize up the entire system - not just in Greece or Spain, but throughout the entire Eurozone and beyond. Greek and Spanish banks are just like all the others; they operate with leverage ratios averaging 25x their equity capital. They are all so overleveraged that it takes very little in deposit withdrawals to cause instantaneous liquidity issues. This is why we'll likely see another ECB-induced printing program announced (with a new abbreviation, hopefully) before a broader bank run can take root. The Eurozone authorities simply cannot risk the consequences of bank runs in countries like Spain, Portugal or Italy, which are far too big to bailout for the over-stretched ECB. It's not about Greece staying or leaving the European Union anymore, it's about the bailout ability of European banking system to survive the impact of massive money transfers.
Nothing is really being solved here, and everyone knows it. We're essentially in the same place we were when the crisis erupted back in 2010, only now there's more total debt outstanding. Bank of Canada Governor Mark Carney remarked in a December 2011 speech that "the global Minsky moment has arrived", and it's now plain for all to see.16 The "Minsky moment" refers to the work of Hyman Minsky, a deceased American economist who developed theories on how debt accumulation eventually leads to financial crises. You don't have to be an economist to understand the crux of Minsky's theories. As an economy grows it takes on increasing amounts of debt. The point eventually comes when the cost of servicing that debt can no longer be met by that economy's productive capacity - that's the Minsky Moment, and we're watching it play out all over the world today. When Greek bond yields spiked back in February 2012, bond investors looking at the country's €368 billion of debt outstanding, its population of 11 million people, and its nominal GDP of $312 billion realized that it couldn't possibly work. There was no way Greece could pay the interest on its debt load. There was no way the bond market could keep pretending everything was ok, like it currently does with the UK, US and Japan… for now.
Greece clearly needs another large-scale bailout, and we think they'll get one. Greece's exit from the Eurozone represents a Lehman-like scenario to the global banking system - why wait to see what carnage it will unleash? It's always easier to print money, and printing another couple €100 billion is nothing compared to the trillions that have been printed since last November. Where this will get tense, however, is when the market acknowledges the Minsky moment in a larger EU economy, like Spain or Italy. As we go to print, Spanish bond yields are now trading back above 6.5%, signaling the market's non-confidence in the country's ability to back-stop its own banking system. Spain has a population of 47 million, a GDP of roughly $1.3 trillion, national debt of roughly $1.1 trillion, debt owed to the ECB and various bailout funds totaling €643 billion, and now, a banking system that also appears close to collapsing.17 Their Minsky Moment has already arrived, and it's simply a matter now of how the market will react to it, and how long it takes the ECB to come to Spain's rescue.
Without a doubt, the most counterintuitive aspect of the Greece/Eurozone debacle has been its impact on the price of gold. Gold is now back below $1600 for the third time since August 2011; each time has coincided with severe banking stress within Greece and the broader Eurozone. Some pundits have suggested that various European banks are selling gold to raise liquidity, and this would make sense if the Eurozone banks had gold to sell, but we cannot find any evidence of large physical sellers out of Europe. Also, ever since the unlimited US-dollar SWAP agreement was launched in November 2011, USD liquidity has not been the key issue in Europe - rising sovereign bond yields and deposit withdrawals have. On the contrary, the selling pressure in gold once again appears to be expressed primarily through the futures markets, which are highly levered and rarely involve any physical transactions involving actual bullion. The futures market sell-off also appears to be waning now, since the European banking crisis has provided central banks with a politically-palatable excuse to take action if it deteriorates any further.
The recent gold price has been particularly frustrating given the continuation of bullish demand trends out of China. China posted another record Hong Kong gold import number in March of 62.9 tonnes. Gold imports into China have now totaled 135.5 metric tonnes between January and March 2012, representing a 600% increase over the same period last year.18 We don't have to connect the dots here - China is stockpiling the precious metal while investors in the West scratch their heads wondering why the spot price is so low.
Non-G6 central banks have also continued to accumulate physical gold, with the latest reports revealing another 70 tonnes of gold purchases completed in March and April by the central banks of Philippines, Turkey, Mexico, Kazakhstan, Ukraine and Sri Lanka.19 We won't bore you with the exercise of annualizing those numbers and comparing them to the annual global mine supply, but suffice it to say that the fundamentals still remain firmly intact. It's now simply a matter of improving sentiment towards gold in the West, and if the current banking crisis in Europe gets any worse, or if we see another large-scale policy response, it will likely happen on its own accord.
Although the last eight months have not played out the way we would have expected for gold, they have played out the way we envisioned for the banks. The question now is how long this can go on for, and how long gold can remain under pressure in a banking crisis that has the potential to spread beyond Greece and Spain? So much now rests on the policy responses fashioned by the US Fed and ECB, and just as much also rests on what's left of European citizens' confidence in their local banking institutions. Neither of these things can be precisely measured or predicted, but we continue to firmly believe that depositors in Greece and Spain will choose gold over drachmas or pesetas if they have the foresight and are given the freedom to act accordingly. The number one reason we have always believed gold should be owned, and why we believe it will go higher, is people's growing distrust of the banking system - and we are now there. We will wait and see how the summer develops, and keep our attention firmly focused of the second phase of the bank run now spreading across southern Europe.
Eric Sprott & David Baker
Although the adjacent questionnaire is facetious, it does ask the right questions. If you're a wealthy European depositor today, whatdoyou do with your money? Do you really continue to keep cash in a Greek or Italian bank account?
European bank depositors all face a tough decision today - to withdraw their deposits, or not withdraw and take their chances. Their response to that decision may determine the financial future of the Eurozone. Since 2008, EU Government bailouts have transformed a traditional banking crisis into a full-blown sovereign crisis. The European Central Bank (ECB) has managed to keep the Eurozone banking system going for now, but the constant threat of depositor bank runs makes its future extremely uncertain. A bank run on deposits forces banks to liquidate assets to raise cash. Governments and central banks will go to extreme lengths to avert such a scenario, because a liquidation reveals what an asset is really worth - and they are likely worth far less than what the banks are claiming they're worth on their balance sheets today.
Bank runs have wreaked havoc in Europe over the past three years. In Iceland, it was a UK-led bank run on its second largest bank, Landsbanki, in early October 2008 that led Landsbanki to block over 300,000 UK depositors from accessing their accounts in its online bank called Icesave. Fear of widespread deposit losses compelled the British government to promptly freeze the assets of Landsbanki in retaliation, inciting an effective lock-down of foreign capital in and out of the country.1 You certainly didn't want to have an Icelandic chequing account when that happened - especially considering that the Icelandic Krona proceeded to lose 58% of its value by the end of November 2008.2
In Ireland, it was the withdrawal of almost €4 billion in deposits in less than three weeks that compelled the Irish government to nationalize Anglo Irish Bank in January 2009.3 Large depositors lost faith in the Irish government's bank account guarantee and began to pull their cash out of Irish banks in droves. As a Trinity College Dublin professor was quoted at the time, "This is a nightmare scenario for the [Irish] government… they can't stop further withdrawals from the bank unless we close the borders and turn into Cuba."4
Ireland experienced a secondbank run in late 2010, when more than €67 billion was withdrawn from Ireland-based institutions in October alone.5 Ireland's top six domestic banks, two of which are currently in the process of being shut down, have now lost more than €90 billion in corporate deposits since the crisis began in 2008.6 And the withdrawals continue - in May 2011 it was reported that Irish resident private-sector deposits had declined by 8.7% over the past 12 months.7 Private sector deposits from non-Irish Eurozone residents declined by 9.7% over the same period, while deposits from non-Eurozone residents were reportedly down 28.2%.8 Ireland's experience makes it fairly clear: when depositors sense danger,and they are free to move their money elsewhere - they typically do.
The Irish deposit withdrawals have left Ireland's banks in the hands of the ECB, which graciously bailed the country out back in November 2010, and has now lent Irish banks more than €103 billion as of the end of June 2011.9 This, in addition to the €55.7 billion the Irish banks have received from their own central bank, is amazingly still not enough to recapitalize the Irish banking system, which at the time of writing still requires an additional €24 billion of capital to remain solvent.10
In Greece, bank withdrawals have proven equally as damaging. Greek banks have seen deposit outflows of around 8% thus far in 2011, with an acceleration of outflows in May and June. Moody's recently warned that such flows could cause a "severe cash shortage if they rapidly increased beyond 35% of deposits".11 Last week's €109 billion bail-out suggests that may have already happened.
Just as with Ireland, the ECB has kept the Greek banks afloat, funding them almost €100 billion in 2010 and an additional €103 billion thus far in 2011.12,13 The recent bail-out will buy Greece time, but deposit outflows could still derail the ECB's efforts to save the Greek banking system if they continue unchecked.
Although we don't have the data for Spain or Italy, it does not escape us that those countries' governments are likely highly aware of the effect a bank run could potentially have on their fiscal stability. Italy is a much bigger fish than Ireland or Greece. Its €1.8 trillion of borrowing in nominal terms is more than the debt of Greece, Spain, Portugal and Ireland, combined.14 Italy and Spain are too big to fail and too big to bail-out, so the future of the Eurozone will be seriously compromised if Italian and Spanish depositors take flight with their euros. To that effect, we found it very instructive to read about new provisions that the Eurozone's rescue fund, the EFSF, recently incorporated into the latest Greek bail-out. Included among them is the ability for the EFSF to buy sovereign bonds in the secondary market, give EU states "precautionary credit lines" before they are shut out of credit market, and "lend governments money to recapitalize their banks".15 The sovereign crisis, at its root, is still a banking crisis. The banks hold loads of Eurozone sovereign debt. If depositors withdraw capital, those banks must sell some of those sovereign bonds to stay solvent. The EFSF provisions are there to provide the banks with the liquidity they need to survive deposit withdrawals. The question now is what will happen if the EFSF runs out of the funds to do so.
In our view, the depositors that chose to transfer their money out of their local Eurozone banks deserve some recognition, because they 'get it'. The EU banks are still the root of this problem, and depositors are right to question the security of their deposits held with them. We have always postulated that the real problem in our financial system is too much leverage in the banking system. We are continually reminded of this fact every Friday when US bank failures are released. When you compare the failed banks' assets to the cost the FDIC pays to make their depositors whole, it reveals how many times the banks have lost their equity capital. The key to remember here is that banks lend out our money and keep very little in reserve. If we assume they keep 5 cents of capital for every 95 cents they loan out - a 25% 'implied write-down' in Chart A would mean that the bank has effectively lost its capital six times over.
The banking situation in Europe is no different from that above - EU banks are also highly levered, but their situation is further complicated by the fact that what was once the most liquid and secure loan on European banks' balance sheets - sovereign debt - is no longer liquid and secure. This makes EU banks extremely vulnerable to deposit withdrawals as it forces them to approach the ECB for help to maintain liquidity. There is only so much the ECB can do - if a true 'liquidity event' takes place, we can all rest assured that there will be no buyers of distressed assets in the sizes that European banks hold today, sovereign bonds, or not.
We discuss the EU banking crisis this month to remind everyone that we have very recently lived through two instances where the entire financial system almost collapsed. The first took place during the height of the 2008 crash. The second transpired in May 2010 when the ECB stepped in with its $1 trillion bailout package to avert disaster. All financial bailouts up to this point have been instigated with a desire to avert the first domino from falling. They have been instituted to avert contagion - a total financial meltdown that would effectively turn the global banking system into an Icelandic money trap - where no money can get in, or out.
We still don't know if a financial collapse can be averted in Europe because investors and depositors are not all naïve to reality. The financial malfunction is ongoing and will not be prevented through these continual perverse financial machinations. If Eurozone depositors move their capital - more bailouts will be required, thereby increasing the sovereign debt levels and exacerbating the seemingly hopeless situation that much more.
As the questionnaire above suggests, we believe a growing number of European depositors are transferring their money out of EU banks, and many of them are reinvesting their capital into gold and silver for safety. It does not surprise us to see gold hitting all-time highs in euros and dollars. It's worthwhile to acknowledge that those investors in Iceland and Ireland who had the foresight to convert their cash to gold before their countries' respective bank runs have all fared extremely well in both nominal and real terms. We believe that gold and silver are the ultimate alternative for a chequing account in a vulnerable banking jurisdiction, and whether the ECB prints more euros or eventually defaults, both outcomes will continue to support a robust demand for precious metals as an alternative currency.
THE REAL BANKING CRISIS
http://www.zerohedge.com/news/eric-sprot...is-part-ii
Here we go again. Back in July 2011 we wrote an article entitled "The Real Banking Crisis" where we discussed the increasing instability of the Eurozone banks suffering from depositor bank runs. Since that time (and two LTRO infusions and numerous bailouts later), Eurozone banks, as represented by the Euro Stoxx Banks Index, have fallen more than 50% from their July 2011 levels and are now in the midst of yet another breakdown led by the abysmal situation currently unfolding in Greece and Spain.
On Wednesday, May 16th, it was reported that Greek depositors withdrew as much as €1.2 billion from their local Greek banks on the preceding Monday and Tuesday alone, representing 0.75% of total deposits.1 Reports suggest that as much as €700 million was withdrawn the week before. Greek depositors have now withdrawn €3 billion from their banking system since the country's elections on May 6th, seemingly emptying what was left of the liquidity remaining within the Greek banking system.2 According to Reuters, the Greek banks had already collectively borrowed €73.4 billion from the ECB and €54 billion from the Bank of Greece as of the end of January 2012 - which is equivalent to approximately 77% of the Greek banking system's €165 billion in household and business deposits held at the end of March.3 The recent escalation in withdrawals has forced the Greek banks to draw on an €18 billion emergency fund (released on May 28th), which if depleted, will leave the country with a cushion of a mere €3 billion.4 It's now down to the wire. Greece is essentially €21 billion away from a complete banking collapse, or alternatively, another large-scale bailout from the European Central Bank (ECB).
The way this is unfolding probably doesn't surprise anyone, but the time it has taken for the remaining Greek depositors to withdraw their money is certainly perplexing to us. Official records suggest that the Greek banks only lost a third of their deposits between January 2010 and March 2012, which begs the question of why the Greek banks have had to borrow so much capital from the ECB in the meantime.5 Nonetheless, we are finally past the tipping point where Greek depositors have had enough, and the past two weeks have perfectly illustrated how quickly a determined bank run can propel a country back into crisis mode. The numbers above suggest there really isn't much of a banking system left in Greece at all, and at this point no sane person or corporation would willingly continue to hold deposits within a Greek bank unless they had no other choice.
The fact remains that here we are, in May 2012, and Greece is right back in the exact same predicament it was in before its March 2012 bailout. Before the bailout, Greece had approximately €368 billion of debt outstanding, and its government bond yields were trading above 35%.6 On March 9th, the authorities arranged for private investors to forgive more than €100 billion of that debt, and launched a €130 billion rescue package that prompted Nicolas Sarkozy to exclaim that the Greek debt crisis had finally been solved.7 Today, a mere two months later, Greece is back up to almost €400 billion in total debt outstanding (more than it had pre-bailout), and its sovereign bond yields are back above 29%. It's as if the March bailout never happened… and if you remember, that lauded Greek bailout back in March represented the largest sovereign restructuring in history. It is now safe to assume that that record will be surpassed in short order. It's either that, or Greece is out of the Eurozone and back on the drachma - hence the renewed bank run among Greek depositors.
Meanwhile, in Spain, bank depositors have been pulling money out of the recently nationalized Bankia bank, which is the fourth largest bank in the country. Depositors reportedly withdrew €1 billion during the week of May 7th alone, prompting shares of Bankia to fall 29% in one day.8 The Bankia run coincided with Moody's issuance of a sweeping downgrade of 16 Spanish banks, a move that was prompted over concerns related to the Spanish banks' €300+ billion exposure to domestic real estate loans, half of which are believed to be delinquent.9 The Spanish authorities were quick to deny the Bankia run, with Fernando Jiménez Latorre, secretary of state for the economy stating, "It is not true that there has been an exit of deposits at this time from Bankia… there is no concern about a possible flight of deposits, as there is no reason for it."10 Funny then that the Spanish government had to promptly launch a €9 billion bailout for Bankia the following Wednesday, May 24th, an amount which has since increased to a total of €19 billion to fund the ailing bank.11 Deny, deny some more… panic, inject capital - this is the typical government approach to bank runs, but the bailouts are happening faster now, and the numbers are getting larger.
The recent bank runs in Greece and Spain are part of a broader trend that has been building for months now. Foreign depositors in the peripheral EU countries are understandably nervous and have been steadily lowering their exposure to Eurozone sovereign debt. According to JPMorgan analysts, approximately €200 billion of Italian government bonds and €80 billion of Spanish bonds have been sold by foreign investors over the past nine months, representing more than 10% of each market.12 The same can be said for foreign deposits in those countries. Citi's credit strategist Matt King recently reported that, "in Greece, Ireland, and Portugal, foreign deposits have fallen by an average of 52%, and foreign government bond holdings by an average of 33%, from their peaks."13 Spain and Italy are not immune either, with Spain having suffered €100 billion in outflows since the middle of last year (certainly more now), and Italy having lost €230 billion, representing roughly 15% of its GDP.14
As we've stated before, no matter what happens in the Eurozone, the absolute worst case scenario for the authorities is a bank run. It terrifies all involved, because they can spiral out of control faster than governments can react to stop them, save for the most Draconian measures. They also prompt banks to liquidate whatever assets they can, revealing the truth about what their "assets" are actually worth. In this environment, no one wants to find out what the market will really pay for them. We're seeing this now in Spain, where according to Bloomberg, "Many Spanish banks are avoiding property sales so they don't have to "mark to market" valuations. Instead, they're giving developers new loans to pay debt coming due to prevent defaults."15 Sound familiar? We're now at the point where a bank run in one Eurozone country could quickly seize up the entire system - not just in Greece or Spain, but throughout the entire Eurozone and beyond. Greek and Spanish banks are just like all the others; they operate with leverage ratios averaging 25x their equity capital. They are all so overleveraged that it takes very little in deposit withdrawals to cause instantaneous liquidity issues. This is why we'll likely see another ECB-induced printing program announced (with a new abbreviation, hopefully) before a broader bank run can take root. The Eurozone authorities simply cannot risk the consequences of bank runs in countries like Spain, Portugal or Italy, which are far too big to bailout for the over-stretched ECB. It's not about Greece staying or leaving the European Union anymore, it's about the bailout ability of European banking system to survive the impact of massive money transfers.
Nothing is really being solved here, and everyone knows it. We're essentially in the same place we were when the crisis erupted back in 2010, only now there's more total debt outstanding. Bank of Canada Governor Mark Carney remarked in a December 2011 speech that "the global Minsky moment has arrived", and it's now plain for all to see.16 The "Minsky moment" refers to the work of Hyman Minsky, a deceased American economist who developed theories on how debt accumulation eventually leads to financial crises. You don't have to be an economist to understand the crux of Minsky's theories. As an economy grows it takes on increasing amounts of debt. The point eventually comes when the cost of servicing that debt can no longer be met by that economy's productive capacity - that's the Minsky Moment, and we're watching it play out all over the world today. When Greek bond yields spiked back in February 2012, bond investors looking at the country's €368 billion of debt outstanding, its population of 11 million people, and its nominal GDP of $312 billion realized that it couldn't possibly work. There was no way Greece could pay the interest on its debt load. There was no way the bond market could keep pretending everything was ok, like it currently does with the UK, US and Japan… for now.
Greece clearly needs another large-scale bailout, and we think they'll get one. Greece's exit from the Eurozone represents a Lehman-like scenario to the global banking system - why wait to see what carnage it will unleash? It's always easier to print money, and printing another couple €100 billion is nothing compared to the trillions that have been printed since last November. Where this will get tense, however, is when the market acknowledges the Minsky moment in a larger EU economy, like Spain or Italy. As we go to print, Spanish bond yields are now trading back above 6.5%, signaling the market's non-confidence in the country's ability to back-stop its own banking system. Spain has a population of 47 million, a GDP of roughly $1.3 trillion, national debt of roughly $1.1 trillion, debt owed to the ECB and various bailout funds totaling €643 billion, and now, a banking system that also appears close to collapsing.17 Their Minsky Moment has already arrived, and it's simply a matter now of how the market will react to it, and how long it takes the ECB to come to Spain's rescue.
Without a doubt, the most counterintuitive aspect of the Greece/Eurozone debacle has been its impact on the price of gold. Gold is now back below $1600 for the third time since August 2011; each time has coincided with severe banking stress within Greece and the broader Eurozone. Some pundits have suggested that various European banks are selling gold to raise liquidity, and this would make sense if the Eurozone banks had gold to sell, but we cannot find any evidence of large physical sellers out of Europe. Also, ever since the unlimited US-dollar SWAP agreement was launched in November 2011, USD liquidity has not been the key issue in Europe - rising sovereign bond yields and deposit withdrawals have. On the contrary, the selling pressure in gold once again appears to be expressed primarily through the futures markets, which are highly levered and rarely involve any physical transactions involving actual bullion. The futures market sell-off also appears to be waning now, since the European banking crisis has provided central banks with a politically-palatable excuse to take action if it deteriorates any further.
The recent gold price has been particularly frustrating given the continuation of bullish demand trends out of China. China posted another record Hong Kong gold import number in March of 62.9 tonnes. Gold imports into China have now totaled 135.5 metric tonnes between January and March 2012, representing a 600% increase over the same period last year.18 We don't have to connect the dots here - China is stockpiling the precious metal while investors in the West scratch their heads wondering why the spot price is so low.
Non-G6 central banks have also continued to accumulate physical gold, with the latest reports revealing another 70 tonnes of gold purchases completed in March and April by the central banks of Philippines, Turkey, Mexico, Kazakhstan, Ukraine and Sri Lanka.19 We won't bore you with the exercise of annualizing those numbers and comparing them to the annual global mine supply, but suffice it to say that the fundamentals still remain firmly intact. It's now simply a matter of improving sentiment towards gold in the West, and if the current banking crisis in Europe gets any worse, or if we see another large-scale policy response, it will likely happen on its own accord.
Although the last eight months have not played out the way we would have expected for gold, they have played out the way we envisioned for the banks. The question now is how long this can go on for, and how long gold can remain under pressure in a banking crisis that has the potential to spread beyond Greece and Spain? So much now rests on the policy responses fashioned by the US Fed and ECB, and just as much also rests on what's left of European citizens' confidence in their local banking institutions. Neither of these things can be precisely measured or predicted, but we continue to firmly believe that depositors in Greece and Spain will choose gold over drachmas or pesetas if they have the foresight and are given the freedom to act accordingly. The number one reason we have always believed gold should be owned, and why we believe it will go higher, is people's growing distrust of the banking system - and we are now there. We will wait and see how the summer develops, and keep our attention firmly focused of the second phase of the bank run now spreading across southern Europe.