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Bailout of world's oldest bank underscores lingering crisis in Europe

More than eight years after the collapse of the global financial system, Europe's banks are still struggling — and things may get worse.

The latest threat to euro zone banks comes from Italy, where the world's oldest bank, Monte dei Paschi, is running out of cash. On Wednesday, it disclosed that without fresh capital, it will be insolvent within four months. Previously, it was saying it had enough cash to last 11 months. The bank was founded in 1472.

Italian officials are expected to meet Friday to formally approve a 5 billion euro ($5.2 billion) government rescue of the world's oldest bank, just days after it failed to raise enough private cash to stay afloat.

But with Italy's banks mired in bad loans and the country's economy going nowhere, the move may prove to be too little, too late.


The rescue plan is just the latest chapter in the ongoing, eight-year-old European banking crisis.

Because of a series of rules imposed by Europe's central bank, the government's investment will force the write-down of some of the bank's bonds, a so-called "bail in" designed to spread the financial burden of any government rescue.

Many of those bonds are held by Italian households, which would wipe out the savings of thousands of Italians. Italian officials are working to minimize the losses to the roughly 40,000 individual investors holding Monte dei Paschi bonds.

"The scheme is ready," one senior Italian official told the Financial Times. "The burden-sharing principle will be respected, but we will try to limit the damage to savers as much as possible."

The move to rescue Monte dei Paschi was part of a broader 20 billion euro ($20.89 billion) package approved by the Italian Parliament on Wednesday to use public funds to shore up other battered Italian banks. Italy's government debt burden, at about 133 percent of its gross domestic product, is already the second highest in the euro zone after Greece.

Such a bailout would buy some time, but would do little to reverse the economic forces that continue to erode the financial strength of Europe's wider banking system, especially those outside the core economies of Germany and France.

More than eight years after the collapse of the global financial system, Europe's banks are still struggling — and things may get worse.

There's little indication that the economic pressures straining EU ties will ease any time soon.


Despite moves by European central bankers to boost growth by slashing interest rates, much of Europe outside Germany, France and the United Kingdom remains stuck with little or no economic growth.

That economic stagnation is fueling the financial anxiety of Europe voters.

It's also crippled many businesses with loans they can't pay back. U.S. banks recovered relatively quickly after aggressively writing off bad debt left by the 2008 mortgage crisis, but bankers throughout Europe were slower to get those loans off their books.

In Italy, for example, the complex legal process of unwinding a failed business and selling off assets creates extensive delays in resolving bad loans, according to a report earlier this year by the International Monetary Fund. Such liquidations can take, on average, more than eight years, the report said.

As a result, many Italian banks are weighed down by billions of euros in bad loans that will likely never be repaid.


Then-Prime Minister Matteo Renzi speaks after the Italian referendum on constitutional reforms, Palazzo Chigi, Dec. 5, 2016, Rome.
Getty Images
Then-Prime Minister Matteo Renzi speaks after the Italian referendum on constitutional reforms, Palazzo Chigi, Dec. 5, 2016, Rome.

Sluggish economic growth has cut into the demand for new loans, which has hammered European bank profits. Ultra-low interest rates have prompted many companies to borrow in the credit markets by issuing bonds, further cutting into loan demand.

Weak profits, in turn, have further hampered efforts by Europe's bankers to rebuild the capital they need to write off bad debts. Now, as the U.S. Federal Reserve embarks on a new policy of gradually raising interest rates, European bankers will continue to struggle with the low profit margins generated by low rates.

Rising rates, which tend to reduce the value of long-term debt securities, could also erode the capital base of banks holding government bonds on their balance sheets.

Political forces also pose a persistent threat. British voters' decision in June to leave the European Union has prompted voters in other countries to consider similar moves.

And much as U.S. voters' economic anxiety propelled President-elect Donald Trump to the White House, Europe's malaise has given strength to the deglobalization movement there.

Prime Minister Matteo Renzi resigned after Italian voters rejected a referendum calling for reforms intended to spur growth. The vote was seen as a victory for Italy's nationalist Five Star Movement.

"If Italy moves out of the euro zone and away from the European Union, the economic and financial implications will throw European economies into a depression," said Carl Weinberg, chief economist at data analysis firm High Frequency Economics.