The current financial crisis in Europe is particularly worrisome for investors. This is because a variety of banks are exposed to debt issues in Greece, Ireland, Portugal, Italy and Spain. Over the past few weeks, EU officials have been working on some kind of strategy to create a firewall around the most vulnerable nations. The basic idea is that this will help them to avoid the crisis from spreading. The problem is that many of these events are starting to move faster than officials would like.
Stress Test Example
A good example of this can be seen with the stress test that was imposed on the banks over the last six months. At the time, it appeared as if a variety of financial institutions were well capitalized. Yet beneath the surface, some of the largest firms were exposed to debt obligations in these countries. This has forced EU officials to take even greater action, as the events in Greece are taking on a life of their own. While there is division, about how to effectively deal with these issues among select members (i.e. France and Germany). These different elements are important, because they are showing how they are increasing the possibility of a crisis spreading. As, officials cannot act fast enough and there are divisions about the best approach to effectively deal with these challenges over the long term.
How banks are making the crisis worse?
The failed stress test did not reveal what firms were most vulnerable to any kind of shocks to the financial system. Instead, it only let the problems linger until they can no longer be ignored. This is exactly what is happening at the moment, with a variety of financial institutions saying that they are exposed to what happens in: Greece, Ireland, Portugal, Italy or Spain. The way that this is making the crisis worse is by adding to overall amounts of confusion. As, investors are unsure about: what firms have exposure and the overall amounts they are vulnerable to.
A good example of this can be seen with: Deutsch Bank and Dexia. In both cases, these firms were believed to be some of the strongest financial institutions in Europe. As they were able to easily pass the EU stress and it appeared like they were well capitalized. However, beneath the surface they are exposed to potential default issues, in any one of the most vulnerable members. The situation with Deutsch Bank is very surprising to investors, as it was believed that they had very little exposure to these countries. Once the crisis in Greece became even worse, is when it was revealed that they were vulnerable to a possible default. As executives announced, that they will not be able to meet their projected earnings of $17.29 billion. This is because they are writing off $325 million in losses associated with their investments in Greek debt.
While Dexia, is seeking additional assistance from: the ECB, France and Belgium. In this situation, they are asking them for a second bailout in three years to deal with these issues. Both cases are troubling, because they are indicting how no one knows: the size of the possible losses and the total amounts of debt that are being held by these firms. This means that unless some kind of solution is reached to address these challenges. The overall losses for these firms could be similar to what was experienced in the US during the 2008 financial crisis. As a variety of institutions including: BNP Paribas, Society General and two German state banks could be vulnerable to a potential Greek default. If this were to occur, it would more than likely mean that these issues will begin to adversely impact Germany and France.