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Europe Works to Contain Crisis

 

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By CARTER DOUGHERTY, NELSON SCHWARTZ and FLOYD NORRIS

Published: October 6, 2008

 

European nations scrambled further Monday to prevent a growing credit crisis from bringing down major banks and alarming savers as Sweden followed Germany, Austria and Denmark in offering new protections for bank deposits.

 

As troubles in financial markets spread around the world, some governments are eager to act to avoid the mistakes of the 1930s when authorities sat on their hands during the Wall Street crash and its aftermath, Julian Chillingworth, chief investment officer at Rathbone Unit Trust Management in London, said.

 

Sweden became the latest European country to offer protection for bank deposits, after the German government offered blanket guarantees Sunday to all private savings accounts. Austria and Denmark also did the same.

 

Britain’s government on Monday scrambled to find ways to help the country’s ailing banking sector and even considered a partial nationalization of the industry. The chancellor of the Exchequer, Alistair Darling, continued to consult with advisers on Monday on ways to stabilize the banking sector, which may include a recapitalization financed by taxpayers, said a person at the Treasury who declined to be identified because the discussions were private.

 

Stocks fell sharply on Monday in London, Paris and Frankfurt.

 

New bailouts were arranged late Sunday for two European companies, Hypo Real Estate, a large German mortgage lender, and Fortis, a large banking and insurance company based in Belgium but active across much of the Continent. Under the agreement, BNP Paribas will acquire the Belgium and Luxembourg banking operations of Fortis for about $20 billion.

 

The spreading worries came days after the United States Congress approved a $700 billion bailout package that officials had hoped would calm financial markets globally.

 

The crisis in Europe appears to be the most serious one to face the Continent since a common currency, the euro, was created in 1999. Jean Pisani-Ferry, director of the Bruegel research group in Brussels, said Europe confronted “our first real financial crisis, and it’s not just any crisis. It’s a big one.”

 

Britain is coming under increasing pressure to act. Some investors criticized the government for failing to set up an American-style rescue fund and for its piecemeal approach to deal with each problem.

 

“The government needs to get on their front foot and get control of their own destiny,” Mr. Chillingworth said. “We could well be in a period where we see a quasi-nationalization in the banking sector, where taxpayers are taking equity stakes.”

 

Britain partly nationalized Bradford & Bingley last week after the mortgage lender struggled to get financing and brokered a takeover of HBOS by Lloyds TSB after its shares lost most of its value. From Tuesday, the government will also increase the amount of retail deposits it guarantees to £50,000, or $88,600, from £35,000.

 

Some analysts said guaranteeing deposits might reinstate client confidence but would fall short of bringing back the trust among banks that is desperately needed to encourage them to lend to each other. British banks remain burdened by their exposure to worthless mortgage assets, but the larger problem remains their unwillingness to lend to one another — even after an injection of £40 billion by the Bank of England.

 

“Liquidity is drying up,” said Richard Portes, a professor of economics at the London Business School. “The authorities have to deal with this paralysis in the money markets.”

 

The European Central Bank has aggressively lent money to banks as the crisis has grown. It had resisted lowering interest rates, but signaled on Thursday that it might cut rates soon. The extra money, aimed at ensuring that banks have adequate access to cash, has not reassured savers or investors, and European stock markets have performed even worse than the American markets.

 

In Iceland, government officials and banking chiefs were discussing a possible rescue plan for the country’s commercial banks.

 

In Berlin, Chancellor Angela Merkel and her finance minister, Peer Steinbrück, appeared on television Sunday to promise that all bank deposits would be protected, although it was not clear whether legislation would be needed to make that promise good.

 

Mindful of the rising public anger at the use of public money to buttress the business of high-earning bankers, Ms. Merkel promised a day of reckoning for them as well. “We are also saying that those who engaged in irresponsible behavior will be held responsible,” she said.

 

The events in Berlin and Brussels underscored the failure of Europe’s case-by-case approach to restoring confidence in the Continent’s increasingly jittery banking sector. A meeting of European heads of state in Paris on Saturday did little to calm worries, though officials there pledged to work together to ensure market stability.

 

President Nicolas Sarkozy of France and his counterparts from Germany, Britain and Italy vowed to prevent a Lehman Brothers-like bankruptcy in Europe but they did not offer a sweeping American-style bailout package.

 

The growing crisis has underlined the difficulty of taking concerted action in Europe because its economies are far more integrated than its governing structures.

 

“We are not a political federation,” Jean-Claude Trichet, the president of the European Central Bank, said after the meeting. “We do not have a federal budget.”

 

Last week, Ireland moved to guarantee both deposits and other liabilities at six major banks. There was grumbling in London and Berlin about the move giving those banks an unfair advantage. But Germany proposed its deposit guarantee Sunday after Britain raised its guarantee.

 

The German officials emphasized that the guarantee applied only to private depositors, not to the banks themselves. But on Monday, Mr. Steinbrück said the government was considering an “umbrella” to protect the banking sector.

 

Unlike in the United States, where deposits are now fully guaranteed up to a limit of $250,000 — a figure that was raised from $100,000 last week — deposits in most European countries have been only partly guaranteed, sometimes by groups of banks rather than governments. In Germany, the first 90 percent of deposits up to 20,000 euros, or about $27,000, was guaranteed.

 

Even before the Paris meeting began it was becoming clear that two bailouts announced the week before had not succeeded and that UniCredit, a major Italian bank, might be in trouble. UniCredit announced plans on Sunday to raise as much as 6.6 billion euros.

 

Fortis, which only a week ago received 11.2 billion euros from the governments of the Netherlands, Belgium and Luxembourg, was unable to continue its operations. On Friday, the Dutch government seized its operations in that country, and late Sunday night the Belgian government helped to arrange for BNP Paribas, the French bank, to take control of the company for 14.5 billion euros, or about $20 billion.

 

In Berlin, the government arranged a week ago for major banks to lend 35 billion euros to Hypo Real Estate, but that fell apart when the banks concluded that far more money would be needed. Late Sunday night the government said a package of 50 billion euros had been arranged, with both the government and other banks taking part.

 

The credit crisis began in the United States, a fact that has led European politicians to assert superiority for their countries’ financial systems, in contrast to what Silvio Berlusconi, the prime minister of Italy, called the “speculative capitalism” of the United States. On Saturday, Gordon Brown, the British prime minister, said the crisis “has come from America,” and Mr. Berlusconi bemoaned the lack of business ethics that had been exposed by the crisis.

 

Many of the European banks’ problems have stemmed from bad loans in Europe, and Fortis got into trouble in part by borrowing money to make a major acquisition. But activities in the United States have played a role. Bankers said Sunday that the need for additional money at Hypo came from newly discovered guarantees it had issued to back American municipal bonds that it had sold to investors.

 

The credit market worries came on top of heightening concerns about economic growth in Europe and the United States.

 

“Unless there is a material easing of credit conditions,” said Bob Elliott of Bridgewater Associates, an American money management firm, after retail sales figures were announced, “it is unlikely that demand will turn around soon.”

 

Henry M. Paulson Jr., the United States Treasury secretary, hoped that approval of the American bailout, which involved buying securities from banks at more than their current market value, would free up credit by making cash available for banks to lend and by reassuring participants in the credit markets.

 

But that did not happen last week. Instead, credit grew more expensive and harder to get as investors became more skittish about buying commercial paper, essentially short-term loans to companies. Rates on such loans rose so fast that some feared the market could essentially close, leaving it to already-stressed banks to provide short-term corporate loans.

 

Europe’s need to scramble is in part the legacy of a decision to establish the euro, which 15 countries now use, but not follow up with a parallel system of cross-border regulation and oversight of private banks.

 

“First we had economic integration, then we had monetary integration,” said Sylvester Eijffinger, a member of the monetary expert panel advising the European Parliament. “But we never developed the parallel political and regulatory integration that would allow us to face a crisis like the one we are facing today.”

 

In Brussels, Daniel Gros, director of the Center for European Policy Studies, agreed. “Maybe they will be shocked into thinking more strategically instead of running behind events,” he said. “The later you come, the higher the bill.”

 

While the European Central Bank has power over interest rates and broader monetary policy, it was never granted parallel oversight of private banks, leaving that task to dozens of regulators across the Continent.

 

This patchwork system includes national central banks in each of the euro zone’s 15 members and they still retain broad powers within their own borders, further complicating any regional approach to problem-solving.

 

“The European banking landscape was transformed fairly recently,” Mr. Pisani-Ferry said. “When the euro was first introduced, the question of cross-border regulation didn’t really arise.”

 

Optimists say one potential long-term benefit from the current turmoil is that it often takes a crisis to propel European integration forward.

 

“Progress in Europe is usually the result of a crisis,” Mr. Eijffinger said. “This could be one of those rare moments in E.U. history.”

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