Wednesday, October 01, 2008

Europe's Banks Start To Feel The Strain (Updated)

The euro fell against the dollar yesterday - by the largest amount registered in any single day since the introduction of the single currency in 1999. The drop was effectively a response to the growing signs of strain in Europe's banking sector. Activity in support of banks was widespread throught the day, and across the whole system. The euro fell 2.5 percent to $1.4077 by mid morning in New York, down from $1.4434 on Monday. Early this morning in Europe it was trading in the $1.41 range.

This current pressure on the euro is more the result of signs of liquidity problems in the banking sector than it is a response to the growing weaknesses in the eurozone real economies, which, as we saw at the end of last week, are really pretty substantial in their own right. What follows is simply a summary of some of the highlights of the European banking crisis as it has emerged in recent days. As such it is more a narrative - obtained by scouring the financial press - than an analysis. On the other hand I do think we can already identify some clear trends, since we can see that in those European countries which had substantial housing booms - the UK, Ireland, Spain and Denmark - the bank exposure is to the drop in the value of the underlying assets (the houses, or the land, or the malls, or the office blocks) and to the defaults in payments which have their origin in the consequences of the mortgage seize-up for the real economy (rising unemployment, declining bonus payments etc), whereas in non-housing boom countries (lead by Germany, Italy, Sweden and Austria) the exposure is to lending which was made to banks in the boom countries - first and foremost in the United States, but also in the UK and Ireland (see Germany's Hypo and it's Irish subsidiary Depfa) and, of course (and the large slice of this is yet to come) in Eastern Europe (lead by banks in Sweden, Austria and Italy).

The other key thread is whether or not the institution in question lent against deposits, or depended on the wholesale money markets for funding. The banks - lead in this case by the Spanish armada - who were most dependent on external borrowing are now evidently those who have (or are about to have) the biggest problems.

And again, before we proceed, I would stress again that I am a macroeconomist, and not a banking sector analyst. What follows is simply a summary of what I have been able to find out simply reading round the press. As far as I am concerned, getting a measure of what is happening in the banking and financial sector is a necssary preliminary for starting to reach any macroeconomic serious evaluation of what the consequences will be for the real economy. Needless to say, all the 2009 numbers just went down, and they went down considerably. How considerably depends of course on what gets to happen next.

Irish Deposit Support Move

Europe has been restless all week, but on Monday it was really the Irish banks who occupied centre stage, with the Irish government unveiling a wide-ranging guarantee scheme to safeguard deposits and debts at six leading financial institutions. The scheme, which guarantees an estimated €400bn (£315bn, $567bn) of liabilities, covers retail, commercial and inter-bank deposits as well as covered bonds, senior debt and dated subordinated debt.

Most Irish depositors were already covered by an existing deposit insurance scheme for up to €100,000, and the move was essentially aimed at easing short-term funding problem. The scheme offers guarantees for the deposits in Allied Irish Banks, Bank of Ireland, Anglo Irish Bank, Irish Life and Permanent, Irish Nationwide Building Society and the Educational Building Society.

Irish finance minister Brian Lenihan, stated that the government's intention was to make it easier for Irish banks to access funds, and he admitted that "since the collapse of several institutions in the US, it has been very difficult to access funds on international markets for Irish banks.......This will present real problems for the Irish economy if it is not addressed.”

The move followed the biggest one-day fall in bank share prices in two decades. Anglo Irish Bank plunged 45 per cent while Irish Life and Permanent, the Republic’s largest mortgage provider, fell 34 per cent. Allied Irish Banks were down nearly 16 per cent and Bank of Ireland lost 15 per cent. The legislation, which has attracted considerable criticism and triggered inflows of cash into Irish banks from Britain and even further afield (AIB have, for example, outlets in Poland), was unveiled on Tuesday, and passed into law on Thursday.

The Irish economy - like it's Spanish counterpart - had enjoyed pretty spectacular growth since the creation of the eurzone, and was widely know as "the Celtic tiger", even being hailed as a model for the accession states of the European Union to follow (watch out Slovenia). But now the model itself, as well as the advisability of having long periods of ECB serviced negative interest rates, is being hastily re-examined - as construction and property markets seize up in the wake of the global credit crunch. Indeed Ireland last week became the first among the 15 eurozone members to declare it was officially in recession. It may have been the first, but I am sure it won't be the last. The q-o-q GDP data from Ireland has long been volatile
(even when seasonally adjusted) but the y-o-y chart below makes things pretty clear, I think. Not only did the economy contract q-o-q over two consecutive quarters, the contraction also took place vis a vis the equivalent quarters a year earlier. Ouch!

Belgium and France Rescue Dexia

French banks are widely regarded as being the most stable in the current crisis, due to the importance of their retail banking business, and the extent of their deposit base. Nonetheless some French financial entities have been facing difficulties, and on Monday the Belgian and French governments - in a joint initiative - threw a 6.4 billion-euro ($9.2 billion) lifeline to leading local government lender Dexia (which is in effect a transnational entity, based both in Brussels and Paris).

According to the details of the deal reached, the Belgian federal and regional governments and shareholders will invest a combined 3 billion euros into Dexia. The French government will invest 1 billion euros and Caisse des Depots et Consignations, France's state-owned bank, will put in 2 billion euros. The Luxembourg government will buy 376 million euros of notes convertible into shares of Dexia's unit in the country.

Dexia, which employs about 35,000 people in more than 30 countries, generates about half its profit from arranging loans for municipalities from Mexico to Japan, funding infrastructure projects and insuring U.S. municipal bonds. The company also provides financing to half of the France's local governments, according to French Finance Minister Christine Lagarde.

The French Caisse des Depots et Consignations, which is based in Paris, will now become Dexia's largest shareholder with 19.3 percent of the equity, up from 11.9 percent previously. The French government, the Belgian federal government and the Belgian regions will each own a 5.7 percent stake.

Dexia came under pressure following its bailout of Financial Security Assurance, its New York-based bond insurance unit. Dexia agreed in August to provide $300 million to FSA after provisions tied to the subprime crisis led to a loss. The bank had previously pledged a $5 billion credit line to FSA in June, and injected $500 million into the unit in February.

Dexia also took responsibility in August for the $17.3 billion in invested assets at FSA's financial products unit, which includes $7.6 billion of subprime mortgage-backed securities. Dexia's tier 1 capital ratio, which is a measure of it's ability to absorb losses, seems set to rise to something above 14 percent following the capital increase. The ratio currently stands at about 10.5 percent, after suffering 350 million euros in losses related to Lehman's bankruptcy in the third quarter, according to Chief Financial Officer Xavier de Walque.

Fortis Too

Fortis, which is in fact Belgiaum's largest financial-services company, received an 11.2 billion-euro ($16.3 billion) rescue from the Belgian, Dutch and Luxembourg governments (also on Monday) after investor confidence in the bank simply seemed to evaporate last week. Fortis shares had previously dropped 35 percent in Brussels trading on concern the company would struggle to replenish capital depleted by the 24.2 billion-euro takeover of ABN Amro Holding NV units and credit writedowns. Belgium will buy 49 percent of Fortis's Belgian banking unit for 4.7 billion euros, while the Netherlands will pay 4 billion euros for a similar stake in the Dutch banking business. Luxembourg will provide a 2.5 billion-euro loan convertible into 49 percent of Fortis's Luxembourg banking division.

Fortis is the largest European firm to be bailed out so far. Fortis has said it plans to sell its stake in ABN Amro's consumer banking unit, although a buyer has yet to be identified. Fortis joined Royal Bank of Scotland Group and Spain's Banco Santander last year to buy Amsterdam-based ABN Amro for 72 billion euros, just as the U.S. subprime mortgage market collapsed.

Fortis, which was formed in 1990 following the merger of the Dutch insurance company NV Amev, Belgian insurer AG Group and the Dutch bank VSB, has seen its shares fall 71 percent so far this year in Brussels, lowering the market cap to 12.2 billion euros. The company is estimated to have about 3 billion euros of bonds maturing this year and needs to refinance an additional 7 billion euros next year.

Fortis reported a 49 percent decline in second-quarter profit on credit-related writedowns on Aug. 4. The banking business's core Tier I capital ratio, an indicator of a bank's ability to absorb losses, was 7.4 percent at the end of June, compared with Fortis's own target of 6 percent. The company's structured credit portfolio, which includes collateralized debt obligations and U.S. mortgage-backed securities, amounted to 41.7 billion euros at the end of June. Fortis said Aug. 4 the pretax impact of the credit market turmoil on its earnings was 918 million euros in the first half.

And Then There Is Hypo Real Estate

Hypo Real Estate Holding, Germany's second-biggest commercial-property lender, is going to receive a 35 billion-euro ($50 billion) guarantee from the German government and private banks. The bank's rescuers will provide an emergency credit line in two allotments, of about 14 billion euros and 21 billion euros. Private banks will pay 60 percent of the first transfer and the Berlin-based federal government will put up the entire second payment.

Hypo Real Estate said it needs the loan to shield itself from the financial-market turmoil after its Dublin-based Depfa Bank unit ran into problems getting short-term funding. Hypo Real Estate fell as much as 76 percent to 3.30 euros in Frankfurt trading on Monday. At the same time Commerzbank, owner of Germany's biggest commercial-property lender Europhypo, dropped as much as 27 percent.

But Hypo was still fighting for its life on Saturday after German banks and insurers pulled out of a state-led 35 billion euro ($48.5 billion) rescue programme stitched together only days ago. The news is a fresh blow for the global financial system struggling to master an unprecedented crisis of confidence and poses a political challenge for the Berlin government, which has been fighting efforts to arrange a pan-European bank bailout.

"The 35 billion euro rescue package promised to the Hypo Real Estate Group and extending into 2009 announced last week is currently withdrawn," the Munich-based real estate and public-sector lender said in a brief statement.

Hypo Real Estate's financing needs exceeded the bailout plan guarantee, Germany's Die Welt reported yesterday, citing unnamed people in the finance industry. It will need 20 billion euros by the end of next week and 50 billion euros by the end of the year, according to the newspaper. As much as 100 billion euros may be needed to shore up the bank's finances by the end of 2009, Die Welt said.

And Bradford and Bingley

Bradford and Bingley, which is the U.K.'s biggest lender to buy-to-rent landlords, was seized by the British government after the credit crisis shut off funding and competitors refused to buy mortgage loans that customers are struggling to repay. Banco Santander SA, Spain's biggest lender, has agreed to pay 612 million pounds ($1.1 billion) for the building society's 197 branches and 20 billion pounds of deposits.

Bradford and Bingley thus became the second British bank to be nationalised this year - following the rescue of Northern Rock earlier this year.

The U.K. Treasury will take over Bradford and Bingley's 41 billion pounds in mortgage loans. In return, the British government obtains rights to any gains as the bank sells off assets, including personal loans and its Bingley headquarters. UK compensation rules mean other financial entities will have to cover the 14 billion-pound insurance policy the former building society had to protect depositors. A short-term loan from the Bank of England will initially cover the amount falling on the banks.

Santander will pay the additional 4 billion pounds to protect deposits over the 35,000 pound maximum amount covered by the U.K. regulator's compensation plan.

Bradford and Bingley's shares were cancelled in London before the market opened on Monday. The credit crunch had made it impossible to fund Bradford & Bingley's lending. Deposits at the bank were obviously totally insufficent, and amounted to only slightly more than half of loans outstanding. This situation had forced B&B to depend on the now-frozen wholesale capital markets.

``In a nationalization, shareholders get wiped out,'' .........``That's just the risk investors take.''

Bradford and Bingley was the smallest of the four British building societies that transformed themselves from customer-owned lenders to publicly traded mortgage specialists during Britain's housing market boom. It was created in the 1964 merger of the Bradford Equitable Building Society and the Bingley Building Society, both established in 1851. The combined company started to sell shares on the London Stock Exchange in December 2000 and had a market value of 3.2 billion pounds as recently as March 2006. Shares plunged 93 percent this year, to reach 20 pence on Sept. 26, reducing Bradford and Bingley's market value to a mere 289 million pounds, even following the raising of 400 million pounds in its third attempt to replenish capital.

Basically the UK's falling home prices and rising unemployment took their toll, and pushed up late mortgage payments to more than 2 percent of B&B's loans. That compares with the U.K. average of 0.5 percent, according to the UK Council of Mortgage Lenders. Almost half of B & B's 42 billion pounds in loans went to landlords, bringing its share of the U.K. buy-to-let market to 19 percent. Arrears on loans to buyers who rent out their properties rose from 0.73 percent at the end of 2007 to 1.1 percent by June 30, according to the council.

About 17 percent of the bank's loans went to customers whose incomes weren't verified, and obviously such lending typically has a higher level of default than loans to standard borrowers. B & B's bad debts in the first half jumped to 74.6 million pounds from 5.3 million pounds last year.

U.K. government and BoE officials had tried for most of the year to prevent B & B from becoming the second Northern Rock, and had earlier borrowed about 24 billion pounds in emergency funds from the Bank of England.

Northern Rock was nationalized in February and got an additional 3.4 billion pounds from the government last month after late loan payments rose to 1.2 percent amid the U.K.'s steepest decline in house prices since 1992. The U.K. has so far managed to avoid nationalization of HBOS, the UK's biggest mortgage lender. It waived antitrust restrictions on Sept. 18 to allow Lloyds TSB Group, the U.K.'s largest provider of checking accounts, to enter into negotiations to buy HBOS in a stock swap valued at about 12 billion pounds. But this deal has yet to be cobcluded, and yesterday shares in HBOS fell as much as 20 percent amid market chatter that Lloyds could reduce its offer by a quarter.

Lloyds shares were up 3.9 percent in mid afternoon yesterday, giving its bid a value of 187.4 pence under the recommended offer which will see HBOS investors get 0.83 Lloyds shares for every HBOS share they own. By contrast HBOS shares were down 10 percent at 127.8 pence, making them the biggest faller in the FTSE 100 share index and putting them at a 31 percent discount to Lloyds' offer price. The stock had earlier fallen as low as 113 pence. Rumourology had it that on nthe back of the change in relative values Lloyds could revise its offer to 0.6 of a TSB shares for each HBOS share.

HBOS, is another bank which is dependent on wholesale borrowing for its mortgage funding, a gets almost half of its funding from this source. HBOS has seen its share price fall 86 percent since the onset of the credit crunch in September last year. HBOS' loans are estimated to have 52 percent cover from customer deposits, against 61percent for Lloyds and 55 percent for the combined group.

If the deal goes through it will create a lender with a 28 percent share of the UK mortgage market and the new entity will control a quarter of the country's current or checking accounts.

Italy's Unicredit

Attention today has shifted to some extent to Italy, where UniCredit SpA, Italy's biggest bank and owner of Germany's HVB Group, has fallen more than 24 percent in three days as the feeling has grown that the bank may need to raise money to strengthen its finances. Concern that UniCredit may help in the bailout of Germany's Hypo Real Estate Holding, a development which could have negative consequences for Unicredit's capital position seems to be behind the fall. Hypo Real Estate was in fact spun off from HVB Group in 2003.

UniCredit announced its intention of "spinning-off" real-estate assets to boost its core Tier I capital ratio to a target of 6.2 percent by the end of the year. The property spinoff and unspecified transactions the bank carried out last month will raise the core Tier I ratio by 0.27 of a percentage point, according to today's statement. UniCredit didn't give further details about the location or extent of the real-estate holdings.

UniCredit has made $61 billion of acquisitions during the past three years, including buying Capitalia SpA last year and Munich-based HVB in 2005. Munich-based Hypo Real Estate was founded when HVB spun off its commercial real estate business in October 2003 to boost its capital ratio and protect its credit ratings after an 829 million-euro loss in 2002. HVB's core capital ratio stood at 15.2 percent at the end of June, based on Basel II accounting standards.

UniCredit later rebounded in Milan trading after the Italian stock market regulator banned short sales of banking and insurance stocks and Prime Minister Silvio Berlusconi said he "wouldn't permit" speculative attacks on banks. UniCredit shares jumped 29 cents, or 11 percent, to 2.89 euros on the news that short selling was to be banned, after falling in earlier trading to the lowest since December 1997. The stock is down 49 percent this year, giving the company a market value of about 38.6 billion euros ($54 billion).

Unicredit is also exposed due to the extent of its lending in Eastern Europe - which are estimated to amount to one quarter of its total operations. According to the Spanish newspaper Expansion Banco Santander are interesting in acquiring this part of Unicredit's operations.

UniCredit shares plummeted 24 percent during the first three days of last week. The stock then recovered some of the losses after Italy's stock-market regulator on Oct. 1 banned short sales of banking and insurance stocks, and Prime Minister Silvio Berlusconi said he ``won't permit speculative attacks'' on banks.

Consob, Italy's market watchdog, may have uncovered a case of short selling of UniCredit shares borrowed and sold on Sept. 30 and not delivered back to the lender as of yesterday's deadline, Ansa reported, without citing anyone. Italy's finance police are investigating the whereabouts of 60 million UniCredit shares valued at about 180 million euros, Ansa said.

In terms of lending against deposits, Unicredit's current ratio is 97 percent for 2008, below Intesa Sanpaolo's 104 percent. Both the Italian majors have LtD ratios below the European bank average which is estimated to stand at about 129 percent. Credit-default swaps on UniCredit rose 26 basis points to 150 at 4:40 p.m. in London, according to CMA prices.

The curious thing is that Unicredit is involved in some way or another in the Hypo Real Estate Affair via its ownership of the German bank HVB. All of this is very curious, since Unicredit seems very exposed across all of Eastern Europe via this channel, and it's ownership of Bank Austria Creditanstalt. Unicredit is also exposed in the Baltics, since on September 1, 2007 ASUniCredit Bank Estonian Branch took over the business of HVB Bank Tallinn Branch.

Starting from January 10, 2007, Bank Austria Creditanstalt (BA-CA), the Vienna-based center for CEE business of UniCredit Group, had become a sole shareholder of HVB Bank Tallinn Branch, acquiring 100 % direct substantial interest in the Baltic bank by the German Bayerische Hypo- und Vereinsbank AG.

It is interesting also to note that Unicredit is holding an exceptional board meeting on Sunday to discuss a plan to boost its regulatory capital and settle investors' concern with its financial position. The bank is reported to be considering paying its dividend in shares so that it can hold on to about 3 billion euros ($4.1 billion) in cash and bolster its Core Tier 1 capital ratio, but in this climate it is not clear how the markets will respond to this type of weakness.

Fitch Ratings has Thursday changed the Outlook on UniCredit to Negative from Positive. Fitch has also changed the Outlook on UC's subsidiaries - Germany-based Bayerische Hypo- und Vereinsbank AG (HVB) and Austria-based Bank Austria Creditanstalt AG - to Negative from Positive. Furthermore, the rapidly changing operating environment, the dull macroeconomic prospects in Italy and Germany and the less benign outlook for some central and eastern European markets might result in further loan impairment charges. Fitch also regards UC's current capitalisation (end-H108 Basel 1 core Tier 1 ratio of 5.55%) as tight in relation to its risks; internal capital generation is weakening and there are no plans to strengthen capital significantly in the near future. Meanwhile, conditions in the wholesale funding market remain extremely challenging.

Europe Wide Response?

So what now? Well, as much of the press seems to be noting, all that "NINJA mortgage ha ha ha" stuff from the EU politicians is now starting to look pretty silly (Peer Steinbrueck may well have been the worst case scenario here - being actively seen to gloat with his "ninja loans" quip - short for "no income, no job, (and no) assets." - but I think before anyone laughs too loudly we should just wait and see what happens to the German economy if the run on the Russian financial system continues). Europe's leaders have really been extremely foolhardy in giving the impression to their electorates that the European economy was completely sound and that Europe's banks would avoid any fallout from the global housing bust. If a whole generation of new financial products are suddenly withdrawn from the market (rather like all that "tainted" Chinese milk) it should be obvious that property prices and the construction industry everywhere will feel something, and those banks who didn't have a local property boom to fund, well they simply got involved in buying securities issued by others who did, via the so called "global wholesale money markets".To take just one simple example - of the estimated $591 billion in losses and writedowns so far recorded by global banks since the start of 2007, 39 percent have been accounted for by European institutions.

Yet despite all of this, some European politicians are still at it. Italian Prime Minister Silvio Berlusconi was busying himself yesterday trying to vaunt it over the United States for just this sort of reason. While Italy's financial stability panel, which met for the third time in 10 days yesterday, discretely limited itself to saying what it was supposed to say - namely that the impact of the global financial crisis on Italy's banking and insurance system remains limited and Italian banks had enough liquidity - Berlusconi was busy proclaiming that Italy was far better placed to handle its problems than the United States was: "I am not pessimistic about the future ..." he is quoted as saying "because our financial situation is less fragile than that of the United States,". This, I think remains to be seen, and such bravado in making comparisons hardly befits a Prime Minister whose country has just enetered its fourth recession in eight years and which looks set to contract across whole year 2008.

And the President of Spain's government, José Luis Rodriguez Zapatero, doesn't seem to be much better, since he seized the opportunity provided by his recent United States trip to tell a group of businessmen that the Spanish financial system, unlike its US counterpart, was in extremely good health. Not satisfied with simply making himself look ridiculous, he went further, stating that the extent of Spain's growth had depressed Silvio Berlusconi (his traditional "enemy"), and even suggested that Spain would overtake France in terms of per capita income within three or four years. If someone else hadn't used the phrase already this week, I would have said that what we had here was a clear case of "whom the gods would destroy they first make mad", as it is I will simply have to limit myself to saying that the condition of the patient with Artemio Cruz Syndrome is evidently detiorating.

What Can The EU Do?

However, recognising that we will need some sort of concerted intervention to address the developing problem is one thing, and deciding what that intervention should be is quite another (as we can see from what is happening in the United States right now, getting consensus on any sort of major intervention is far from easy). In theory, the 27-nation EU structure should offer a ready means of coordinating policy. But while the EU has unified laws on areas like trade and labour standards (and in the near future on immigration) more broad-reaching policy harmonisation (such as fiscal coordination) has long been resisted, and the recent sorry attempts to introduce a basic constitution provide clear evidence of the difficulties which lie ahead. The EU has no institutional equivalent of the US Treasury, which is why all the initiatives which we have seen to date - for all the European "feel" about them - have been either ad hoc bi- or tri- lateral arrangements.

"Europe gives up on a joint rescue plan against the crisis," wrote the
centre-left El Pais, lamenting that the EU "lacks the necessary institutions to
respond as the United States has done. Although the crisis has hit the US harder so far, "in the EU even a minor crisis could be more devastating because of the lack of an institutional framework and political will.""

US NBER head Marty Feldstein has long been on record as pointing out that the greatest weakness in the eurosystem architecture from the start has been the absence of a common fiscal system, and the inability to correct the problems caused by deficits in one country drawing on surpluses in another. Feldstein was thinking about asymetric recessionary processes, and I doubt was thinking about a problem of the severity of the one we now face at the time, but in the longer run he has been proved right, this sort of problem was always going to arise at some point or another.

And we also need to think about the budget deficits issue. If certain of the national governments move back on the commitment to balance the budgets by 2011 then we will only start to shift from banking instition downgrades to soverign rating ones.

At the present time the European Commission seems to be limiting itself to talking about regulatory issues for the future, and new legislation proposals are expected later this week aimed at strengthening bank monitoring across borders, but such moves will hardly serve to resolve the present issue. Up to now European governments seem to have only agreed to a concerted supervision framework which is set to come into effect in 2012, pledging themselves to cooperate as required in managing any crisis, but they have most meticulously resisted devising any kind of formula for splitting the bill in the event that a cross-border bailout should become necessary, or that the problems of one country (and Spain immediately comes to mind here) should become to great for any single member to handle alone.

Daniel Gros, director of the Centre for European Policy Studies in Brussels, in particular has come out and stated that European governments ultimately will have to put capital into their banks, which he calculates are more leveraged than their U.S. rivals.

``These are highly leveraged institutions which need to have support from the public purse,'' according to Gros.

Daniel Gros also suggested that EU governments assign the European Investment Bank, the EU's financial arm, the job of infusing 250 billion euros to support the region's banks, in return for an equity stake. The quantity he mentions seems rather small by my calculations (I think more than this will be needed in Spain alone), but he is undoubtedly scratching around in the right area.

There is, however, considerable doubt about whether a significant package can be put together. Sarkozy appears to have already retreated from the original French initiative. While the Netherlands yesterday called on states to set aside funds to help troubled banks, Germany opposed a joint approach to the crisis. The four European members of the Group of Eight nations meet over the weekend in Paris to talk about the credit crisis.

Controversy is already extensive following the Irish decision to guarantee deposits, and now Greece has followed suit, meaning that two of the three eurozone countries have now taken the move, in the process leaving the third country, Spain, rather alone and rather exposed. Greece's government have decided to guarantee all bank deposits in the country, according to a senior finance ministry official yesterday.

Greece's cabinet had met to discuss ways to insulate the country's financial system from the global crisis, amid media reports that worried savers were withdrawing savings from banks. The value of deposits in the Greek financial system at around 230billion euros - roughly equivalent to Greece's annual gross domestic product.

The measure now needs approval from Greece's 300-seat parliament, but opposition to this move is hardly likely, given the popularity which will go with the measure.

European banks are seeing depositors withdraw their cash and savings and moving them to countries which enjoy full government protection for banks, the Wall Street Journal reported today, citing the findings of financial analysts. Ireland's announcement that it would fully guarantee deposits in its retail banks triggered a steady stream of cash from U.K. banks, where the government guarantees only cover a limited amount; as we have seen Greece has already followed the Irish model. An analysis by analysts at Credit Suisse has shown how movements of cash by relatively few depositors may have a bigger effect in countries which a significant proportion of deposits is concentrated among relatively small percentage of the customer base, as is the case in the U.K. (for example) where 4 percent of the banks' customers hold 45 percent of the deposit base. The U.K.'s bank regulator yesterday - the Financial Services Authority - on Friday responded to the problem created by the Irish decision by increasing its insurance ceiling to 50,000 pounds ($88,500) per account from 35,000 pounds to stem a flow of funds to Ireland.

Strange anomalies are also being uncovered, since Britain's Post Office, whose savings products are backed by the Bank of Ireland, has also reported a rise in the number of customers seeking to invest, while earlier this week, Northern Rock - whose savings are guaranteed by the British government after the February nationalisation - desided to limit some of its savings accounts after cash flowed in, prompting rivals to complain it was distorting competition.

Money-market rates jumped to records, Treasury bill rates fell and the Bank of England relaxed borrowing rules for financial institutions as ``extraordinary'' strains deepened the credit freeze.

The London interbank offered rate, or Libor, that banks charge each other for three-month loans in euros increased to 5.33 percent, an all-time high, the British Bankers' Association said. The corresponding rate for dollars climbed to 4.33 percent, the highest since January. The Libor-OIS spread, a gauge of cash scarcity among banks, widened to a record and Asian bank rates climbed to the highest levels in at least nine months.

The Libor-OIS spread, the difference between the three-month dollar rate and the overnight indexed swap rate, climbed 20 basis points to 290 basis points today. It's the third consecutive day the spread has risen to an all-time high. The average was 8 basis points in the 12 months to July 31, 2007, before the credit squeeze began.

Rates on three-month US Treasury bills declined for a third day, dropping 11 basis points to 0.49 percent. They touched 0.02 percent on Sept. 17, the lowest since the start of World War II. The difference between what US banks and the U.S. Treasury pay to borrow money for three months, the so-called TED spread, was at 386 basis points today. The spread was 113 basis points a month ago.

European Central Bank Executive Board member Lorenzo Bini Smaghi is quoted today as saying that European countries should coordinate their efforts to safeguard the financial system by buying stakes in struggling banks. "In Europe, the intervention must be coordinated in order to avoid unequal treatment" Bini Smaghi wrote in a letter in Italy's Corriere della Sera newspaper. Rather than buy a bank's bad assets "It's better to step in on the capital side, as was done in the case of the Belgian bank Fortis last weekend.'' This could also be read as an implicit criticism of the recent "go it alone" on the part of the Irish government in guaranteeing both loans and deposits for the Irish banks.

The French proposal for a European Union-wide bail-out scheme - outlined by French Finance Minister Christine Lagarde in an Oct. 1 interview with the German newspaper Handelsblatt -would seem at first sight to be an audacious bid to seize the political initiative before the crisis depens too far. But his proposals are likely to be met by a chorus of criticism from some quarters - especially from Germany. "The idea of applying one solution, one big bang'' to the crisis "is not practicable and would create new, enormous problems,'' German Finance Ministry spokesman Torsten Albig is quoted as saying. "The tailor-made solution is the right way,'' he said. In fact the Irish government seem to share the German view since Martin Mansergh, an official in the finance department, rejected Brown's criticism and said ``national governments have the primary role in resolving the crisis'' and not ``grand European solutions.'' The Greek government would undoubtedly agree, but I am not sure this view will be shared in Madrid, since Spanish banks are likely to be the long term casualty of the two junior countries effectively dropping out of the race to the bottom.

Although Sarkozy initially appeared to support the plan and seemed willling to stand firm in the face of its numerous critics - stressing that what he wanted was an open-minded debate, “putting aside dogma” - he now seems to have backed off. Initially there was even a number - €300bn - put to the cost of EU bank rescue, but under continuing pressure he has reterated and even go so far as saying “I deny the sum and the principle (of the rescue scheme).” In general French officials are now at some pains to stress that the plan which was mentioned by Lagarde was a Dutch one and not French at all.

Sarkozy had, it seems, hoped to forge a common front at a summit with his German, British and Italian counterparts in Paris on Saturday, but the furore – led by the German government – over the bail-out fund proposal has stopped him in his tracks. The summit is now likely to focus on the existing efforts to tighten regulation of ratings agencies and improve co-ordination between supervisors, and a review of mark-to-market accounting rules. One possible face-saving initiative could be to agree on common standards for bank deposit insurance. EU officials believe that harmonising the protection for savers would discourage other member states from following Ireland and offering blanket guarantees to banks. Greece on Thursday became the latest EU country to propose more protection for savers.

Jean-Claude Trichet, on the other hand, underlined the fact the EU’s structure was is not designed to accommodate a common bail-out scheme. “We do not have a federal budget, so the idea that we could do the same as what is done on the other side of the Atlantic doesn’t fit with the political structure of Europe,” he is quoted as saying.

In fact Trichet hasn't always argued this way, back in July he made the explicit comparison with the US Federal reserve, and the fact that it runs an interest rate policy geered to serve all 50 states covered by the Federal system.

``If you concentrate on California or Florida, it is not at all like Massachusetts or Alaska,'' he said in an interview with Ireland's RTE radio at the time of the rate increase to 4.25%. "It is the same in our case and we have to make a judgment what is good for the full body of the 320 million people'' in the euro area. But now the US Treasury is not concentrating on the needs of Florida or Massachusetts, but on the entire United States, and who, may we ask is in a position to concentrate at this point on the financing needs of the whole 15 member eurozone-area.

Silvio Berlusconi may well want to be seen supporting the Sarkozy proposals for greater regulation, but with the desperate state of Italy’s public finances – debts of more than 103 per cent of gross domestic product – he will not be in a position to offer much in terms of an EU bail-out package. However, the Dutch government said it would continue to press its idea for a €300bn ($415bn, £235bn) scheme whereby each of the EU’s 27 member states would set up its own rescue fund worth up to 3 per cent of gross domestic product. Meanwhile, Spain, Belgium and other EU countries that are not invited to Saturday’s meeting, have warned Sarkozy and his British, Italian and German guests that they will have no authority to take decisions on behalf of the 27-nation bloc as a whole.

And this seems to have been the approach adopted at the Saturday meeting. France, Germany, Britain and Italy put on a united front, promising a more coordinated approach to the credit crunch, although Germany's Chancellor Angela Merkel insisted states would mainly act individually. President Nicolas Sarkozy, did not dispute this point, but said a new "doctrine" had been agreed. Sarkozy said the four had agreed to punish failing bank executives and to call for a rapid meeting of the Group of Eight world industrialised powers to marshall a global response to the financial crisis.

"We have agreed to make a solemn engagement as heads of state and government to support banking and financial institutions faced with the crisis," Sarkozy said at a joint news conference following the three-hour meeting. "Each government will operate with its own methods and means, but in a coordinated manner. In a way, we have devised a doctrine," he added. Brown agreed: "Where action has to be taken we will continue to do whatever is necessary to preserve the stability of the financial system."...."The message to families and businesses is that, as our central banks are already doing, liquidity will be assured in order to preserve confidence and stability," he promised.

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