Regulators Knew of Dexia's Problems But Were Silenced

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By Wolf Richter   www.testosteronepit.com

When a bank is allowed to collapse, the lies behind its financial statements come out of the woodwork—and Dexia, the French-Belgian mega-bank that was bailed out in 2008 and collapsed in early October, is no exception: a report by the French banking regulator surfaced. It contains the results of an investigation concluded in the summer of 2010. And it threatened to put the bank "under special supervision."

And then? Nothing. The report was buried. Until the French newspaper, Libération, obtained a copy of it.

Dexia is a big deal in Belgium where it employs 10,000 people—of a population of 11 million (in the U.S., that ratio would translate into 290,000 employees). It has over 21 million Belgian bank accounts, and its assets of $715 billion dwarf Belgium's $395 billion economy. This craziness started years ago when the community bank embarked on an acquisition spree that turned it into an outsized, overleveraged hedge fund—that paid out huge bonuses, and as we now know, lied to investors, regulators, and the public. At taxpayer's expense.

But the report shows that the regulators weren't stupid. Inspectors of the Authorité de Contrôle Prudentiel, the French banking regulator, investigated Dexia Crédit Local (DCL), the French part of Dexia, during the summer of 2010. By then, DCL had fallen below the required liquidity levels and had difficulty raising cash to cover its monthly expenses.

The report lists a number of infractions committed by both, DCL's pre-bailout management and post-bailout management. Among them:

- DCL gave false financial information to the public.

- DCL managed its portfolio of derivatives in a manner that violated regulatory provisions.

- DCL omitted or lied about important information concerning the acquisition of a portfolio of bonds and speculative holdings.

- DCL overvalued a portfolio of investments by an estimated €2 billion ($2.7 billion).

- DCL's CEO understated transaction volumes.

And this gem:

"From 2007 to 2008, financial communications of Dexia Crédit Local were evasive about the rising risks, though the CEO and other administrators knew about them. They covered the infractions and the consequent liquidity risks with silence."

The regulators also accused DCL's audit firms, Deloitte and Mazars, of closing their eyes.

The report was sent to DCL, along with a threat that the bank would be put "under special supervision." And then the hatchet was buried for some reason. It remains to be seen if the wrongdoing at the bank will ever lead to legal actions against the perpetrators.

And just how deceitful can bank management get? The Financial Times added another wrinkle: a false recapitalization! Dexia lent €1.5 billion to its two largest institutional shareholders before 2008, so that they would invest it in Dexia common stock. As a result, Dexia showed a capital increase of €1.5 billion. Inexplicably, the practice wasn't illegal at the time, though Belgian regulators noticed it.

After all this, we welcome comforting words.

"Belgian banks don't need to be recapitalized, according to the EBA," said Yves Leterme, the caretaker prime minister of the country that is still without government. The EBA, of course, is the European Banking Authority, the very same entity whose "stress test" Dexia had passed in July with flying colors.

Europe's banking and debt crisis is pitting France against Germany. And now, we finally know the real issue: German taxpayers might have to subsidize a French company. Via Greece.... German-French Fight Breaks Out Over Frigates

Wolf Richter   www.testosteronepit.com