European banks are priced for economic Armageddon

Oxford professor Richard Werner, a German banking expert, said negative rates have been the kiss of death for Germany’s cooperatives and regional savings banks, which specialize in lending to small businesses.

The policy has eroded lenders’ interest margin, down to 1.2% in Europe from 3.3% in the United States, and undermined the traditional banking model of lending to businesses for productive investments. “The ECB has forced banks to lend to the real estate sector in various ways. The only source of profit for them is to fund this dangerous bubble,” he said.

The relief for banks was short-lived. The Stoxx 600 has fallen a quarter since the invasion of Ukraine from what was already a bombed structural level. This partly reflects fears that Vladimir Putin will cut off gas flows entirely via Nord Stream 1 to prevent Europe from resupplying before winter.

German Vice-Chancellor Robert Habeck is right to warn that the EU energy market is “in danger of collapsing” with the risk of a Lehmanesque chain reaction. He is also right to warn of serious rationing to come. Preventive destruction of demand is the responsible policy.

What is less responsible is Emmanuel Macron’s decision to extend the gas and electricity price cap, removing the price signal at great expense to the overextended French state. It more or less tells consumers that they can continue to waste energy. It was left to Total, Engie and EDF to speak the harsh truth and proselytize the frugality of the hair shirt.

Above all, the fall of the bank reflects fears of a catastrophic loop. We got our first glimpse of deteriorating debt dynamics two weeks ago when Italian 10-year bond yields climbed to 4%, a quadrupling of the country’s benchmark borrowing rate since January.

Such an approach is enough to impinge on the assumptions of long-term solvency. “The rise in yields is dramatic and very clearly a return of the euro crisis,” said Clemens Fuest, president of Germany’s IFO institute.

The risk spread on the German Bunds briefly touched 250 points, more than when Mario Draghi was drafted by the Italian elites to save the country. Such levels are reminiscent of the revolutionary effervescence of the Lega and Beppe Grillo five-star movement in 2017 – that wild spring in Rome then died down quietly in Italian style.

“Market rates have already reached a level which, if sustained, could test the sustainability of Italian debt under bearish growth assumptions,” Barclays’ Silvia Ardagna said. Debt dynamics “become dangerous” if trend growth falls below 0.8%.

Good luck with that. Even 0.8 pc is well above the average of the past 20 years.

She said the only way for Italy to avoid a long-term solvency crisis is to radically reform the Italian economy. Good luck on that too if the ultra-right Fratelli d’Italia – leading the polls – takes power next year at the head of an anti-system coalition.