Financial institutions across the Continent share a terrifying trait with Lehman Brothers before its 2008 collapse: they rely too much on borrowed money, especially the cheap, short-term loans that are vulnerable to a market shock.
That's not exactly a handy characteristic when a Greek default seems almost inevitable. European policymakers this weekend failed to agree to terms on a 12 billion-euro ($17 billion) bailout loan due next month to Greece, warning that the Greek government must first show it is taking austerity seriously. Apparently mere riots aren't enough for these guys.
What's notable is that the most reckless banks, by these measures at least, reside not in gonzo Greece or profligate Portugal, but in the allegedly responsible states at the so-called core of Europe, Germany and France – the very banks that are most exposed to a Greek default, with some 90 billion euros ($129 billion) at stake.
Though it's hard to open the business section lately without finding a story about Germany's economic renaissance, thrift and prudence don't seem to characterize German banks. They hold 32 euros in loans for every euro of capital they have on hand, according to International Monetary Fund data. Lehman's leverage at the time of its collapse was 31-1, if you're keeping score at home. Either way it means a 3% loss leaves the taxpayers picking up the tab. Yes, that again.
The Germans aren't alone in Lehmanville: Belgian banks are using 30-1 leverage and French ones 26-1, the IMF numbers (see chart, right) show. All told, banks across the 17-country euro area average 26-1 leverage – double the ratio in the United States. Against all odds, European institutions have managed the nifty trick of making U.S. banks look good.
If the European leverage numbers sound familiar, it's because they are in line with the leverage ratios seen at the big U.S. investment banks before the financial markets started their nervous breakdown in 2007. Lehman and Bear Stearns, the smallish investment banks that gorged on real estate during the bubble, were both leveraged at more than 30-1 while Goldman Sachs (GS), Morgan Stanley (MS) and Merrill Lynch were well into the 20s.
And in another similarity, the European banks are heavily reliant on short-term market funding, from sources such as the U.S. money funds that are among the biggest wholesale lenders on the planet. History shows that a market panic can make those funds suddenly unavailable, potentially putting an already stretched European Central Bank even more on the spot.
Yet it's not clear the Europeans have picked up just yet on how this year might come to rhyme with 2008. While Germany has backed away from its demand that private sector lenders be forced to accept reduced repayment terms, there is still no sign that Europe's leaders will soon come to their senses and hammer out a package that ends the siege once and for all.
All this tightrope walking is unnerving the staff at the IMF, which warned last week that "though there has been progress on banking system repair, the pace is too slow."
For now, there is no reason to believe a default is imminent or that the banks would be unable to handle the Greek storm. Liquidity is still ample and the financial system isn't as hyped up as it was three or four years ago. But the sight of overextended banks in the middle of a crisis is never reassuring, no matter how familiar it may be.
