07 APR 2011
By Geoffrey T. Smith | Wall Street Journal
Whisper it softly, but…is that?…can it be?… a light at the end of the tunnel of Europe's banking crisis?
The answer may yet be: "No, it's an oncoming train of disorderly sovereign default," but the news flow has, in the main, stopped getting worse, and in some quarters is improving beyond any reasonable doubt.
The key question remains whether it is improving fast enough to cope with the sovereign-debt restructuring that is looking increasingly likely.
First stop: Ireland. After four tries and €46.3 billion ($66.4 billion) of public money, it has finally produced a realistic worst-case scenario and provided for it convincingly with its latest round of stress tests. It isn't just that the sum of fresh capital to be injected—€24 billion—seems to cover every eventuality.
Everything about the methodology suggests this was the action of a new broom sweeping clean, unencumbered by the need to protect political and boardroom reputations. (Quite the reverse, in fact: Ireland's regulator, Matthew Elderfield, has announced plans to re-examine the fitness and probity of every single bank director in the country.)
Far from allowing itself leeway to paper over the possible unseen losses still lurking in the system, the Irish central bank asked asset-management group Blackrock to come up with the worst numbers it could realistically posit, hired BCG to make sure Blackrock was doing its work properly—then added another 28% for good measure to come up with its total estimated capital shortfall.
The worst-case scenario assumed not only a 60% drop in house prices, but also a rate of foreclosure never before seen in Ireland. In short, this was a credible stress test, even if the Irish people can be forgiven for thinking that they've heard that one before.
Next stop: Iberia. Progress on recapitalizing and restructuring the Spanish banks is accelerating, and the failure of individual mergers or IPO plans shouldn't be taken as the failure of the broader cleanup plan as a whole. As long as the plan is convincingly back-stopped by the Fund for Orderly Bank Restructuring, or FROB, it doesn't matter whether the inadequacies of individual banks are exposed by their merger partners, as in the case of CAM, or by skeptical investors, as in the case of Bankia. One by one, the pretenses that Spain's banks have lived by since the bubble burst are being stripped away. Obviously, the more banks have to turn to the FROB, the more stress the country's sovereign rating comes under, but the bottom line is that the money is there, and can be deployed without bankrupting the sovereign.
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