Feb 17, 2009 | 21:33 GMT

4 mins read

Europe: The Continuing Pain from Exposure to Emerging Markets

The euro fell as much as 1.8 percent against the U.S. dollar Feb. 17, to its lowest point in months, as investors panicked by Western European banks' exposure to emerging markets in Central and Eastern Europe sought shelter in the U.S. dollar. This exposure is creating acute problems for those banks heavily involved in the emerging markets — particularly Austria's banks.
The euro fell as much as 1.8 percent against the U.S. dollar, to $1.257 from $1.280 — its lowest point since Nov. 21, 2008 — on Feb. 17 as Western European banks' exposure to emerging markets in Central and Eastern Europe has panicked investors and prompted them to seek shelter in the U.S. dollar. Overnight — between Feb. 16 and 17 — Moody's Investors Service named Belgian KBC (whose stock is down almost 13 percent in Feb. 17 trading), French Societe Generale (down 9.6 percent), Italian UniCredit (down 7.0 percent), Austrian Raiffeisen (down 13.5 percent) and Austrian Erste Bank (down 18.1 percent) as the most exposed to the emerging market region, causing investors to dump bank stocks and revisit their euro-denominated investments. The threat of Western European banks' exposure to Central and Eastern Europe — which STRATFOR has long forecast as real and potent — is now showing direct effects in Europe. Particularly exposed are Austria — whose banks have loans outstanding in Central and Eastern Europe amounting to 75 percent of Vienna's total gross domestic product (GDP) — Sweden (whose banks' exposure to Baltic States amounts to 30 percent of GDP) and Greece (whose banks' exposure to the Balkans is at 19 percent of GDP). Italy is also significantly exposed, as its two banking giants UniCredit and Banca Intesa (whose combined total assets equal more than 50 percent of Italy's GDP) are very involved in emerging markets. The problem is becoming particularly acute because Western European banks brought foreign-denominated loans with them to Central Europe, the Baltics and the Balkans offering mortgages and consumer loans in euros and Swiss francs (in Poland, 60 percent of all mortgages were denominated in Swiss francs; in Hungary the number stands at 80 percent). The global economic crisis, however, spooked investors out of emerging markets, dropping Central European currencies like a brick across the region in late 2008. Since Oct. 1, 2008, the Polish zloty has fallen by 45 percent against the euro, the Hungarian forint has fallen more than 27 percent, the Serbian dinar is down about 23 percent, and the Romanian leu has fallen 15 percent. This has put into serious question the foreign-denominated loans made to consumers in these countries, as they may no longer be able to service the loans. The European Bank for Reconstruction and Development (EBRD) has in fact said that as many as 20 percent of all loans could be non-performing loans, a figure certainly worrisome for the Austrians, Italians, Swedes and Greeks exposed to Central and Eastern Europe. Most threatened by the crash in Europe's emerging markets is Austria, whose banks (essentially Raiffeisen and Erste Bank) account for 20 percent of total EU bank exposure to the region. Austria has begun in earnest a lobbying campaign to try to convince its fellow EU member states to bail out Central and Eastern Europe to the tune of 150 billion euros (US$188.61 billion). The problem, however, is that Germany balks at the idea of picking up the tab for a bailout of Europe's emerging market and the Austrian, Greek, Italian and Swedish banks that rushed into it. However, a collapse of the Austrian banks could create a serious problem for the eurozone and Austria's close trade and financial partners Italy and Switzerland. Austria's close ties to the Swiss banking system (the Austrian banks first introduced Swiss franc-denominated loans in the early 1990s through cross-border banking with their Swiss counterparts in western Austria) could be particularly damaging to the already-struggling Berne, particularly if emerging Europe defaults on its Swiss franc-denominated loans. Austrian banking troubles could also spread to Italy, whose UniCredit — with nearly $130 billion assets in emerging Europe as of late 2008 — is the fourth-largest bank in Europe and is in fact directly involved in Austrian banking through ownership of Bank of Austria, one of Vienna's largest banks. Of Austria's three neighbors, Germany is the least connected to the Austrian banking system (although its Bayerische Landesbank does have exposure to Central and Eastern Europe), which may explain Berlin's resistance to helping Vienna weather the coming crisis.

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