A Few Quick Reminders Why NOTHING Has Been Fixed In Europe (And Why LTRO 3 Is Not Coming)

Tyler Durden's picture

While Europe is once again back on the radar, having recently disappeared therefrom following the uneventful Greek CDS auction (which in itself was never an issue - the bigger question is any funding shortfall to fund non variation margined payments, as well as the cash to make whole UK and Swiss law bonds) following Buiter's earlier announcement that Spain is now in greater risk of default than ever, coupled with Geithner and Bernanke discussing how Europe is 'fine' in real time, here are three quick charts which will remind everyone that nothing in Europe has been fixed. In fact, it is now worse than ever. As a reminder, when thinking of Europe, the shorthand rule is: assets. And specifically, the lack thereof. Why is the ECB scrambling to collateralize every imaginable piece of trash that European banks can procure at only some valuation it knows about? Simple - quality, encumbrance and scarcity. When one understands that the heart of Europe's problem is the rapid "vaporization" of all money good assets, everything falls into place: from the ECB's response, to Europe's propensity for infinite rehypothecation, to the rapidly deteriorating financial system. It also explains why America will be increasingly on the hook, either via the Fed indirectly (via FX swaps), or indirectly via the IMF (such as two days ago when US taxpayers for the first time funded the first bailout check to the ECB using Greece as an intermediary).

We discussed the quality of European assets recently, first showing that they have aged to a record degree, since European corporates simply do not have the cash to spare to reinvest, replenish and renew their asset base. We have also previously discussed the huge encumbrance (or progressively declining ability to incur addition liens) of European bank assets, which are now increasingly pledged to the ECB, as well as the European eagerness to engage in ultra-rehypothecation (specifically in the MF Global context but also everywhere else). The latter is nothing short of a direct consequence of two things: unprecedented high leverage (recall that UK consolidated debt/GDP is nearly 1000%!), and more importantly, that Europe just does not have the "free" assets it needs to be able to extract more credit money by pledging said assets to third party intermediaries, either in the open banking system, or the shadow banking system (and now that the skeletons in the closet in the European shadow banking system are finally coming to light, the ICMA feels obligated to defend Europe's repo market where the real bodies are buried).

But why this distinct difference between the European banking system, and America's, where one can say that things have gotten progressively better in recent years (if even with $1.7 trillion in fungible excess reserves, which once again courtesy of shadow banking repo ledger entries, allow banks to plug capitalization shortfalls, courtesy of money's fungibility). Simple - presenting a chart showing the difference in sources of coarporate debt between the US and Europe.

What is immediately obvious here, is that unlike in the US, where these are less than 30% for corporates, in Europe, bank loans account for nearly a whopping 90% of total corporate funding! These are secured, LTV loans, made by banks, and not syndicated, which means they are kept on the banks' balance sheets. As a result the bulk of Europe's assets held by levered entities, are already encumbered through existing security arrangement in the debt market (recall that bond debt is for the most part unsecured, and is thus a junior piece to secured bank loans). It also explains why European banks have to scramble to find new assets which they can "pledge" to the ECB in exchange for some additional cash to plug this liquidity shortfall hole, or that. And unfortunately, since the liability side of European balance sheets demands constant cash outflows, unless this is matched by consistent asset inflows, the "transitory" liquidity holes will appear more and more often, until the ECB is finally forced to print uncollateralized money to preserve the illusion of wholesale solvency, sending all of Europe in a hyperinflationary mushroom cloud. In this context, it is also clearly obvious why liquidity band aids such as the LTROs are completely meaningless.

So can Europe change the funding structure of its corporates? No. Here's why: a historical chart showing the distribution of funding for Europe's corporates. There is just too much history and legacy here for Europe to suddenly go "American" and start issuing HY bonds.

And while one can wax philosophical for many more pages, we will end here, because the problem is front and center. Repeat after us:


Actually, there is one more thing. Deposits, or specifically, the Loan to Deposit Ratios of European banks. The chart below explains why not only is Europe's several asset constrained, it is also running out of funding, in the form of depositor cash: the most critical bank liability. Remember: without incremental deposits, banks can not invest in new assets, unless they generate cash from operations, and thus grow shareholder equity. There is a problem: as the final chart below shows, Europe, and especially Scandinavia which has consistently remained off the radar, is literally off the charts when it comes to LTD ratios.

With banks such as Danske, SHB, Swebank, DnB, and Nordea literally at 200% Loan-to-Deposits, but most other European banks too, even the tiniest outflow in deposit cash (ala what is happening in the PIIGS) will send the system into yet another liquidity spasm. Only this time, since what little unencumbered assets remaining have already been pledged to the ECB, there will be no quick LTRO collateral-type fix this time.

And judging by the market's reaction today, more muppets, pardon, people are starting to grasp this.

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ekm's picture

3000 dow points collapse in one single day very,very soon.

We need a cleanup. If not, let's elect a King as a dictator.

ekm's picture

I would elect Barney Frank as King. Who do you like?

Mr Lennon Hendrix's picture

It would be amazing if the Dow collapsed.  It would show nothing is fixed.  Bernanke is out of bullets.  He will inflate his balance sheet by increasing loans.

LawsofPhysics's picture

Isn't the Fed already leveraged 50x?  In fact, can we put the Fed's stat's on these charts?  Oh wait, that's right no one really knows as a true and complete audit of the Fed has never been done.  How long will the rest of the world let this charade continue?  That is all that matters.

ekm's picture

I don't think printing more loans will make any difference any longer.

Primary Dealers are stuffed with BAC and each other shares that nobody wants. Extremely light trading, hence it looks like NYSE could run out of business soon. Merger with Deutsche Boerse is shitted already.

Can the government bail out NYSE? They could, but than USA openly becomes a communist state. It is de facto one, but it still has the facade of the "free market".

LawsofPhysics's picture

The government is frontrunning the NYSE.  

Carl Spackler's picture

Uncle Ben has a limited number of "tools" to utilize.

Bernanke has inflated his balance sheet, but it has not resulted in an expansion or increase in bank lending.  This is what has policy makers scratching their heads.

Consequently, he will continue to inflate his balance sheet via ZIRP (and garbage paper pickup), but this will continue to have little to no effect on bank lending.  Reason...because the credit quality for new lending is not out there, and net interest margin compression forces more banks to have to be correct in their risk management or face small, new, incremental credit losses posing real capitalization problems.


Dr. Engali's picture

You can't create demand. In order for somebody to buy your product people have to want it. That vast majority of people either don't want or don't qualify for what the Bernank is pushing.

Bam_Man's picture

IMHO Barney would prefer to be Queen, and rightly so.

bigdumbnugly's picture

no kings needed, just some functioning frontal lobes in the system we have now

HelluvaEngineer's picture

If that happens, I would BTFD on the next day.  The idiocy knows no bounds

ekm's picture

Your choice. I would wait for another 3000 before I BFTD.

Freegolder's picture

A very interesting read, thanks ZH.

Might it have been fair to credit any of your analysis to Barclays, as all of the charts were theirs?

Tyler Durden's picture

Lehman Brothers North America, pardon Barclays', angle is different and focuses on what the possible resolutions to the problem of a broken European funding model are, not the cause of the problem itself. Incidentally, their conclusions are:

  • Solution 1 – fixed income investors come back to banks:
  • Solution 2 – a European “Frederica” (GSEs come to Europe)
  • Solution 3 – disintermediation (HY revivial)
  • Solution 4 – going Japanese (lowering LDRs)
  • Solution 5 – LTROs forever
LawsofPhysics's picture

You forgot this option;

Solution 6 - capital controls, price fixing, trade wars, and WWIII, total destruction allowing the credit supercycle and real growth to begin anew (after burying all the dead of course).

ekm's picture

Sir, you forgot to mention MMT by name. Shame on you :)

Ghordius's picture

"a broken European funding model" ? Did you run that timeseries back and see how old that is? If it's broken, than it's broken since 1870 and somehow muddled through during the gold-backed period! See my reply further down...

In a clinch, Solution 5 can be adapted to the needs... or be somehow mixed with the first part of solution 6 from LawsOfPhysics (capital controls, price fixing) - historically the favourite path...

ekm's picture

Eastern Europe did LTROs and MMTs forever from 1945 until 1990 and ended up with food stamps. Dictatorship chosen by the people works that way.

That's why the metaphor about the King Dictator. They can do LTROs but it works only in a dictatorship communist model, like the one I lived in for the 1st 20 years of my life.

If some kind of free market continues, it collapses very quickly.

Manthong's picture

Just like modern action movie screenplays.

a) It's a screenplay

b) the villian just keeps coming back at you by escaping the blast, rolling over after supposedly being mortally wounded, morphing shape, rising from the dead or whatever..

until the very end.


Ghordius's picture

chuckle... this "situation" is mostly what classical economists did recognize as "usual".

In fact, it's the UK and the US that differ from continental europe (or Taiwan, for example):

- bigger companies with IPOs (more investment banks) and globally politically relevant CEOs (instead of regionally politically relevant)

- bigger bond markets (investment banks) with more corporate debt in form of bonds (more fees) instead of loans

- bigger banks that lose their ability of keeping an eye on the regions and industries they no longer serve

- central banks that lose their original purpose of backstopping regional problems and become governmental instruments

But just think: when did the UK and the US start to differ from continental europe? At the age of the great bubbles and the gilded age of the Robber Barons. The Age of the Great Banking Centers in London and New York - the Age of the Masters of the Universe.

Now Continental Europe is supposed to "change"? "Modernize"? So that this fits the view of a financial guy from The Two Cities? Sorry, this is preposterous, I prefer this continent to continue to harbour and be friendly to lots of small and medium companies that are mostly family owned, are not on a stock exchange, have a solid relationship to their small regional banks for financing and the small regional banks have a solid relationship with the central bank that mostly does what it's supposed to do: ensure stability for this very organic setup - that is also politically more sound. Keep the behemoths that have more cash than brains...

of course, if you are a bankster this is a huge missed opportunity for IPOs, fees, churn, markets, etc. etc.

btw, the hyperrehypotecation is a pure City of London phenomenon - another reason why every global bank has a branch there...

q99x2's picture

Fuck LTRO. Time for the AntiChrist.

Comay Mierda's picture

there are billions of anti-christs already here.  think of all the people talking about dropping humanitarian bombs and killing each other all over the world.

john39's picture

anti christ is a system, not a person... and yeah, I agree, you are seeing it in action.

LongBalls's picture

I disagree. He is a person.

Dr. Engali's picture

He's currently on the back nine.

Manthong's picture

Damn good thing Ben has a helecopter.

It's going to need to be a Sky Crane.

tocointhephrase's picture

Hasbro has run out of ink and paper. Game over 3i7CHEZ. 

Carl Spackler's picture

Looks like the socialist banks in Scandanavia would otherwise collapse the house of cards that is socialism itself...until Super Mario and Uncle Ben step in with oodles of free liquidity (regardless of Keynes' mental state), care of the American and Franco-Germanic middle classes.

The great falsehood continues

TahoeBilly2012's picture

Everytime I see LTRO I think about those litres of wine you can buy in Europe...makes me thirsty.

asteroids's picture

They have printed tons of money. It'll be used to float markets. You just can't short it. Maybe someday, but not today.

BackOffice Slut's picture

Only thing i see are PROMISES, PROMISES, AND MO PROMISES...............................BUT atleast it's backed up by promises....RIGHT?

I see no problems. Carry on slaves...

Sandmann's picture

since European corporates simply do not have the cash to spare to reinvest, replenish and renew their asset base.


Some corporations have bank subsidiaries (for example Nestle owns Nestle Bank), a practice generally illegal in the US, but common in Europe. They use their "internal" banks to deposit funds with the central bank to avoid credit risk, contributing to this rapid rise in the ECB Deposit Facility balances.


European Companies Are Now Funding European Banks And The ECB - Is "Investment Grade" Cash Really Just Italian Treasurys?

Is there any way to be more precise in these statements ?

stormsailor's picture

i become depressed at the seemingly limitless ability for one dire consequence after another to be avoided by the g-8. 


it would seem that years of my life will be spent in a false dichotomy of faux business as usual with a serious world depression being successfully hidden from my fellow citizens who wander about oblivious.


i despair for the species

LawsofPhysics's picture

You did see that the G8 meeting has been moved to a secure location at camp david.  So much for transparency.  The MSM has not said a word about it, this should make everyone nervous.

Doubleguns's picture

Final asset to be rehypothicated over and over again will be the citizens.....oops there doing that now. ask anyone from Greece.

Manthong's picture

Thank you ZH for the hyperlink..

Weisbrot's picture



my question is ... does anything really change of time? ... other than the names and faces.....


or... are we just more aware of what may be going on due to the internet




MunX's picture

Things change, and will be changing soon. New paradigm is unfolding.

Bam_Man's picture

Another unintended consequence of ZIRP and the incessant ramping of stock markets - bank deposits go bye-bye. No longer taking new deposits or making loans, the zombie banks now exist for only one purpose - to buy up government debt.

yogibear's picture

"Isn't the Fed already leveraged 50x?"

Never stopped other countries and king Bernanke and his Federal Reserve banksters.

In Zimbabwe it made the stock market go to ever increasing new highs. Bernanke and the Federal Reserve banksters know who their masters are. It's Wall Street.

Those who called it right knew Bernanke would just keep on printing. They are saying he will print even as the US dollar falls to destabilizing levels. Bernanke will continue to fall back on his thesis. 


Peter Pan's picture

We have been witnessing the death of currencies for some time. And now we are witnessing the death of assets. The value of housing, empty housing, abandoned factories and silent machines, shuttered shops and empty warehouses have all fallen. Also people who lose jobs find it difficult to fund another one or one with same pay.

Sooner or later we will all realise that the only way to restore an economy is not by goosing up the Dow Jones but by shrinking government by shrinking wars and allowing private entrrprise to create jobs. It's the well paying jobs that drive future asset prices.

CynicLaureate's picture

Is this why they don't get American Idol in Europe?

snowman's picture

You need to bear in mind the nordic banking funding "issue". The loan to deposit ration is high in those banks because the nordic banks use covered bonds, over-collaterialized AAA rated asset pools.

It gives them really cheap funding. The problem is that the covered bonds are largely mortgage debt. And most nordic countries have seen

higher real estate prices and therefore the LTV of the covered bond pools become even more advantageous for the investor (as long as real estate prices go up) and attractive. The potential issue is if and when real estate prices start to reverse then the banks will be sitting ducks. But it will need a very big housing price correction since the banks are pretty strict in over collateralizing the pools (e.g., 15% cash down payment). 

The non-nordic banks in the chart who have high loan-to-deposit ratios and don't use covered bonds as a funding source, are in deep shit.

ZeroIQ's picture

Is it possible to short covered bonds?

mr_nice's picture

As a reminder to americans, let me point out that all the banks in the worst positions in this chart... ARE NOT IN THE EUROZONE

LawsofPhysics's picture

That a good thing, because it implies the E.Z. is cash-rich relative to the rest of the western world and can pay for the real resources required to keep the status quo going.  Now let's see how that works out for the E.Z. in reality.  It should be fine so long as they are paying for oil, coal and natural gas with gold otherwise fiat is fiat.

toadold's picture

Helicopter Ben is starting to show signs of flop sweat. I think he is starting to realize that his odds of holding everything together between now and Novemeber are going against him.  Especially with Obama's pets out there undercutting the energy economy faster than he can print money.  You'll know its over when he hires a criminal defense lawyer. If I were he I'd get one on retainer right now.