A mountain of bad debts and a lack of capital reserves are fueling an Italian banking crisis, which has been thrown into sharp focus by Britain’s referendum vote to leave the European Union.
The Brexit caused a Europe-wide sell off of banking shares making it even more imperative that the government in Rome find a solution quickly before confidence in the system is lost, as happened in the sub-prime financial crisis.
Jeremy Stretch, Head of FX Stategy at CIBC, says: “Contagion was the problem that really was large in 2007 and beyond, and I think that will be something of a concern. And if there were to be a systemic failure in Italy on a major scale then there would be that risk of contagion spilling out through the other European banks.”
Italy’s government wants to use public money to bail out the lenders.
That would avoid potentially huge losses for holders of the banks’s bonds and shares – many of whom are ordinary private citizens rather than institutional investors
The problem is EU rules block Rome from giving state aid to the banks, which are carrying 360 billion euros of loans that are unlikely to be paid back. That is about one third of the total of bad bank debts in the eurozone.
Reportedly Italy and the European Commission are deadlocked over bending the rules so that the small investors do not lose out.
Hitting investors would be a huge political risk for the government of Prime Minister Matteo Renzi, which faced mass protests after it imposed losses last year on bondholders of four troubled small lenders.