A Unified European Response to Banking Crisis

A week is a long time in politics. German chancellor Angela Merkel has joined 13 other eurozone members in backing UK premier Gordon Brown and stiffening the spine of a unified European response to the raging banking crisis, just a week after she vowed in Berlin that Germany would go it alone and that each European state should take care of its own mess.

By M.n Hebbar

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Published: Mon 20 Oct 2008, 9:24 PM

Last updated: Sun 5 Apr 2015, 4:36 PM

You have to hand it to President Sarkozy of France - France also holds the rotating presidency of the EU - for putting the heads of the Euroland bosses together for a brainstorming session at the Elysee Palace. When talks ended, Sarkozy backed Brown and Merkel in finally shaping the plan to re-capitalise banks and guarantee lending between them.

Brown flew into Paris with his proposal for crisis management that essentially sought to re-capitalise banks and guarantee lending between them. The accord on broad pan-European guarantees marked a shift from the earlier position held by Germany but fell short of a central EU rescue fund floated by France a fortnight ago. But it also underlined the ability of European nations to act in political concert in the interests of the single currency.

The UK set the stage when its government announced a plan for major capital injections into British banks, backed up by guarantees on bank debt that should get inter-bank lending, in order to get the system running again. The summit in Paris saw major economies of continental Europe convinced by Brown’s arguments and who readied themselves to put in hundreds of billions of dollars into banks while guaranteeing their debts.

Are we out of the woods yet? We really don’t know. But at least there is hope. Simply because Brown’s plan makes sense while the US rescue effort is still mired in mystery. Brown’s decisiveness and clarity must in retrospect look deceptively simple. The natural response to a financial crisis is to provide adequate capital by having governments extract equity from bank shareholders before writing cheques. With the government becoming an owner, the profit from the sale of distressed assets will flow to taxpayers. But the US has faced ideological hurdles in part-nationalisation of banks.

In the meanwhile, banks in Europe and Asia are in ‘panic mode’. Many once-mighty banks are eating humble pie. There has been a run on some banks. Stock markets have plummeted. Jobs have been lost. Quite a few suicides have followed. Governments are fighting to assure the public that their banks are safe. And banks are struggling for liquidity.

Reactions in Europe to the worst financial crisis in decades are still bitter. “Headless chickens of the world unite. Now is your finest hour!” blazoned a newspaper headline with biting sarcasm in a telling commentary on the clueless thrashing about by bankers and governments alike in response to the crisis. Many are mocking the first world that has popped like a bubble. Political adversaries are rubbing their hands in glee. In Germany, the crisis created a mix of rage and outrage at the duplicity of bank managements.

There is also a streak of ‘Schadenfreude’, a German word best translated as ‘malicious pleasure’, at the belated comeuppance for the American ‘delinquent’ banks. There is a collective desire to eagerly stamp on the graveyard of Anglo-Saxon capitalism, now demystified to reveal its worst weaknesses. It is a requiem for capitalism, as we know it. “This is the end of the US as a financial superpower”, said Germany’s finance minister bluntly.

The party is over. Gone are the times when business-school graduates raked in millions by trading and betting on ever more exotic securities. And when bankers played games with taxpayers’ money to get filthy rich (bonuses of up to $500 million for some!). How we would love to see some of these pinstriped bandits led away in handcuffs! Not only is it not forthcoming, but they are also being bailed out by the $700 billion rescue effort without accountability. So we were actually running a system where greedy and unscrupulous bankers privatised profit but socialised risk.

Fingers continue to point towards American capitalism’s giant “Ponzi scheme”. Was it? Factually, the bursting of the housing bubble has led to mortgaged-backed securities turning into toxic assets, causing huge losses for anyone who bought into them. Financial institutions thus affected have been left with too much debt and too little capital to provide the credit the economy needs.

In Europe, conservatives, like President Sarkozy of France, have declared the death of laissez-faire economics. The idea that markets are always right has now been laid to rest. Economic theory will be rewritten.

The crisis has taken down top executives of those fancy-sounding investment banks but many would step into the elevator and walk out with a cheque. It is not just banks that need a bonfire of vanities after their mismanagement took us all to the edge of this precipice. It is also the criminal negligence of State regulators charged with protecting our interests. “How can we lecture Russia, China, Africa.... when we cannot regulate a sub-prime mortgage market?” asked an incredulous editorial.

The IMF has warned that debt-ridden banks were pushing the global financial system to the brink of total meltdown as rich nations had so far failed to restore confidence. Hence, is re-capitalising the errant banks buying up their worthless assets, and ‘passing the parcel’ again, going to work? Well, the Brown recipe might just about do it.

M N Hebbar is a Berlin based writer

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