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European Banks vs. US Banks: Big Differences

The announcement of coordinated central bank action to provide support for European banks needing access to dollar-based loans highlight a very key difference between European and U.S. banks: European banks are far more reliant on short-term borrowing to fund their operations than U.S. banks.

Why is this true? Banks get money to make loans and fund operations in two ways: from depositors, or by going out and borrowing.

There is intense competition for depositor money in Europe, for a couple of reasons: 1) there are many more banks, and thus more competition for deposits, and 2) there are outside-bank competitors for deposits.

In many countries, the national Post Office can accept deposits. That's right: in many European countries you can have an account with a Post Office. They are competitors to banks.

As a result, European banks fund much of their operations by borrowing. The loan-to-deposit ratio of most European banks is far above that of its U.S. rivals.

According to analyst Mark Palmer at BTIG, U.S. banks such as JPMorgan and Wells Fargo have loan-to-deposit ratios of 66 and 88 percent, respectively.

Just look at the loan-to-deposit ratios of some of these European banks:

Dexia 281%

Danske 209%

Lloyds 155%

Santander 127%

Barclays 118%

Societe Generale 110%

UBS 82%

Source: BTIG

As you can see, these are far higher levels than most American banks, with the exception of UBS. How can they lend out far more than their deposits? They borrow, in the short-term money market.

And that's the problem — this market is increasingly closed to them. In particularly, many use short-term loans provided by U.S. money market funds, but those money market funds have been pulling back because of concerns over solvency in European banks.

That's what today's actionwas designed to forestall: central banks are stepping in and allowing European banks access to three-month dollar loans to help them get through this "liquidity" crisis (which is really a solvency crisis).

It gets more complicated: dollar liquidity is only one part of the overall funding issue. The problem is short-term funding in general, not just funding from dollar sources.

According to Palmer, Societe Generale, for example, needs 22 billion euros in U.S. dollar funding (this is mostly from money market funds), but have total short-term funding needs in the next year of 148 billion euros. Where does the rest of the funding come from? From other sources in Asia and Europe, including interbank lending. But these sources, including Asia, are starting to get nervous about supplying funding as well.

What's going to happen? The first thing is, expect banks to sell assets and announce layoffs. We're already seeing that.

What about raising capital? Very tough right now, particularly with stock prices the way they are. Preferreds? You'd have to pay a very high dividend to do that.

What else? Lower levels of lending are likely, which puts a squeeze on economic growth. Ultimately, we get back to the end game: eurobonds, or expanding the EFSF into a EuroTARP, which can be used to recapitalize the banks.

But the Germans don't want to allow a supranational agency to tax them without holding it accountable. Palmer, George Soros, and many other believe the only way out is if the northern European politicians can convince their citizenry that their own way of life will be imperiled if the euro collapses.

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  • A CNBC reporter since 1990, Bob Pisani covers Wall Street from the floor of the New York Stock Exchange.

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