International Monetary Fund staff have provoked a fierce dispute with eurozone authorities by circulating estimates showing serious damage to European banks’ balance sheets from their holdings of troubled eurozone sovereign debt.
The analysis, which was discussed by the IMF’s executive board in Washington on Wednesday, has been strongly rebutted by the European Central Bank and eurozone governments, which say it is partial and misleading.
The IMF’s work, contained in a draft version of its regular Global Financial Stability Report (GFSR), uses credit default swap prices to estimate the market value of government bonds of the three eurozone countries receiving IMF bailouts – Ireland, Greece and Portugal – together with those of Italy, Spain and Belgium.
Although the IMF analysis may be revised, two officials said one estimate showed that marking sovereign bonds to market would reduce European banks’ tangible common equity – the core measure of their capital base – by about 200 billion euros ($287 billion), a drop of 10-12 percent. The impact could be increased substantially, perhaps doubled, by the knock-on effects of European banks holding assets in other banks.
Elena Salgado, Spanish finance minister, told the Financial Times on Wednesday that the fund was mistaken in looking only at potential losses without also taking account of holdings of German Bunds, which have risen in price.
“The IMF vision is biased,” she said. “They only see the bad part of the debate.”
Ms Salgado added “this is the second time it has happened”, referring to the fund’s October 2009 GFSR, which estimated that eurozone banks had only written down $347 billion of $814 billion of probable losses from the financial crisis.
It later revised down that total of probable total losses by a quarter. Ms Salgado said that the European stress tests of banks were a better indication of their vulnerabilities.
Officials involved in the debate say the mark-to-market analysis can explain much of the recent fall in European commercial banks’ share prices, including French and German institutions that have large holdings of eurozone sovereign debt.
“Marking to market is a fairly brutal exercise, but these are the estimates that hedge funds are currently making,” one official said.
It echoes criticisms of European banks made by the International Accounting Standards Board, which sets bank accounting rules, to the European Securities and Markets Authority, the EU’s markets regulator.
The final version will be published in three weeks’ time just before the IMF’s annual meetings, and is subject to revision depending on the debate between fund staff and the fund’s executive board. The board, on which European countries hold about a third of the votes, discussed the draft report on Wednesday. People present at the board discussion said there was little initial change in position, with European executive directors reiterating their governments’ criticisms of the research.
Officials say IMF staff do not claim their estimate is a comprehensive measure. But they say that the analysis strongly suggests European banks need to raise more capital, an argument recently made by Christine Lagarde, the fund’s new managing director.
One eurozone official told the Financial Times that the report relied on unconsolidated data on bank exposure from the Bank for International Settlements that did not take into account mark-to-market trading losses recorded by banks between the end of 2009 and summer 2011.
Additional reporting by Peter Spiegel in Brussels and Gerrit Wiesmann in Berlin