Whilst the sub-prime crisis has been generously shared by Americans with their European counterparts, the fast deteriorating situation in Eastern Europe is a problem quasi-exclusively European.
Where are We?
Eastern European economies have widely used external debt to finance their growth, estimated by Morgan Stanley at $1,700 billion including, $400 due in 2009 or approximately 1/4 of their GNP. Most of this debt is held by Western European banks, and a large portion is denominated in Swiss franc and euro. Borrowers have taken advantage of the “necessary” stability of their currency in order to join the euro to borrow at lower rates in Swiss franc and euro; for example in Poland 60% of mortgages are in Swiss franc when the zloty has lost 50% of its value in 6 month, doubling the borrowing cost, unsustainable beyond the short term. This mechanism can be replicated throughout Eastern Europe.
According to the EBRD , 10% (up to 20%) of credits in Eastern Europe are or will de defaulting, i.e. $170-$340 billion. Without any help from the IMF (whose resources are becoming stretched) or the European Union, many countries risk entering a severe depression. The situation is so more urgent that their current accounts deficits are widening and therefore their currencies falling vs the euro and the swiss franc.
Erik Berglof, the EBRD Economist, anticipates that the region needs €400 billion to cover their debt and stimulate their credit system when some Western European government are pushing their bank to reduce their exposure to the East.
In this context, Austrian banks are at the forefront with €230 billion lent to the region, i.e. 70% of its GDP… Belgium, Sweden, Holland and Italy are following with 30%, 23%, 16 and 10%. Beyond, Spanish banks are busy with Latin America, Dutch and UK banks with Asia. I do not talked about the Irish banks that are already insolvent.
The insolvency risk of Western European banks expose to Eastern Europe is going to increase, having already to bear the cost of the sub-prime debacle. And I do not talk about all the loans made to emerging markets as a whole that would represent $4,900 billion, including 74% made by European banks with a leverage 50% higher than American and Japanese banks according to the IMF.
The World Bank, The EIB and The EBRD announced Friday a €24.5 billion package to strengthen banks and support lending to the real economy in Eastern Europe. Whilst a step in the right direction, it will be far from enough if we get a real mess in the East.
Markets are clearly and rightly unconvinced with the rhetoric following the Brussels meeting Sunday 3 March.
Markets & Beyond - An Independent View 