Will Mario Draghi ride to the rescue of the Italian banks?

One of the main long running themes of this website has been the problems and travails of the Italian economy. Back on the second of June I expressed the issue in this form.

I have taken a look at the annual numbers and in the year it adopted the Euro (1999) Italy had a GDP per capita of 26,353 Euro’s and in 2015 it was 25,479 Euro’s or 3.3% lower (2010 prices).

That still has the power to shock me and please take a moment to consider the impact of the fact that according to the official statistics the individual experience has gone into reverse both this century and in consequence in the Euro era. At that point I used the words of the Governor of the Bank of Italy which reinforced this grim message.

that Italy has the potential to recoup the growth gap it has accumulated in the last twenty years.

This made me have a wry smile at the latest report on the subject by the International Monetary Fund.

This growth path would imply a return to pre-crisis (2007) output levels only by the mid-2020s and a widening of Italy’s income gap with the faster growing euro area average.

This led to a flurry of lost decade style headlines many of which missed the fact that if we look back as I have described above Italy has been in such a situation for quite some time. Indeed whilst the economic forecast below is not great it is about as good as it gets for Italy.

Growth is projected to remain just under 1 percent this year and about 1 percent in 2017.

This backdrop has significance for the banking sector and the IMF put it thus.

It also implies a protracted period of balance sheet repair, and thus of vulnerability.

There was also some specific advice for the Italian banking sector.

To substantially reduce the stock of NPLs over the medium term, lower the cost of risk, and improve operating efficiency, Directors supported further measures, including more intensive use of out-of-court debt restructuring mechanisms; strengthened supervision; and a systematic assessment of asset quality for banks not already subject to the ECB comprehensive assessment, with follow-up actions in line with regulatory requirements.

That was quite a lot of advice! One can learn a fair bit by the amount of it and this clashed with the official view from Italy which is that there is no problem at all. We were told that the rescue fund would deal with the problems as we mused whether it would even last the summer. That story seems to be changing somewhat however.

Italian banks: So Fondo Atlante is seriously depleted thanks to no take up for new shares, so the solution? Fondo Atlante 2 with €5 to 6bn ( h/t Macroeconomics1 )

Mario Draghi responds

The ECB President was intimately involved in the past history of the Italian banks as both a bank supervisor and as the head of the Bank of Italy. These days of course he is involved but from more of a distance as he has a general overview from Frankfurt. Regular readers will be aware that I have long expected him to offer help to the Italian banks and yesterday we did get some hints. This was an interesting reply to a general question about the Portuguese and Italian banks.

We have in place rules of state aid, we have the BRRD, and as I said several times, these rules contain all the flexibility to cope with exceptional circumstances.

He took the opportunity to describe the rules whilst offering the potential get out of “exceptional circumstances” which made me think that Brexit could be used as such. That would be familiar Euro area policy in responding to a crisis for it rather than acting in advance. Later he became more specific.

On the first question, public backstop is a measure that would be very useful but certainly should be agreed with the Commission according to the existing rules.

Ah “public backstop” words which should send a shiver down the spine of Euro area taxpayers who seem to be facing more socialisation of banking losses. We also got quite a contradiction to the past official mantra that there is no real problem.

The second point about the NPLs in Italy: I think the very first measure – well, certainly, it’s a big problem

He even pointed out the transmission mechanism to the real economy.

But we should be aware that the longer we have this in place, the less functioning will be the banking system, or at least will be the banks with high NPLs, and so the less capable will be these banks to transmit our monetary policy impulses to the real economy.

Then we got a clear hint to future policy.

One of the measures is to have a well functioning market for NPLs. What is needed for such a market to develop?

The problem is that it is quit easy to see sellers on Italian NPLs but who would buy them? Yes what are called “vulture funds” might but that will not be at a price which is likely to be acceptable to the Italian banks who would have to take a large hit. This is in fact a hint that the ECB will be the buyer as the discussion is very similar to the way the ECB wanted an ABS market to develop so that it could start buying them! He also gave a clear hint to the Italian government.

Several things, but one is in my view dominant, namely to create a legislative framework where the NPLs can be traded and sold easily.

Build it and we will come is the message here.

The Market response

This was covered by the Financial Times

European bank stocks, led by Italian lenders, rallied……The rally in Italian bank stocks was led by a gain of 4.1 per cent for the shares of Banco Popolare. Shares in UniCredit, Italy’s largest bank, were 2.4 per cent higher. Monte dei Paschi shares rose 1.6 per cent.

Actually that did not seem much of a response frankly. After all the share prices of these banks has fallen so much that these were very minor responses. Also we were told this.

The remarks by the president of the European Central Bank, at his monthly press conference, helped alleviate concerns about Italian lenders,

I am not sure that is right as maybe he alleviated the concerns of Italian bankers but he certainly did not alleviate the concerns of Euro area taxpayers.


This is the issue which will not go away. In essence it started with the persistent slow economic growth in Italy which of course then slumped. In other countries there has been economic growth periods which have helped reduce problem loans and strengthen bank balance sheets. But in Italy the banks and the economy have dragged each other downwards. So we see that according to Morgan Stanley Unicredit has an NPL ratio of over 15% and Banco di Monte Paschi dei Siena has one over 35%.

Whilst the Italian state might like to have a bailout there are two main problems. Firstly it has a national debt to GDP ratio approaching 133% according to the IMF. Secondly it has only recently signed up to Euro area bailout rules which mean there has to be a bail in equivalent to 8% of total liabilities before public capital can be used. That is awkward once you realise this. From Bruegel.

The prospect of bank resolution in Italy is complicated by the fact that a large share of banks’ bonds is held by retail investors who – as evident in the previous cases of resolution in 2015 – often had little awareness of the actual risk they were signing up to.

In Italy about a third of bank bonds are held by household retail investors

A bail in would include the Italian equivalent of Mrs Watanabe and would impact directly in the economy. There could be miss-selling compensation like we have seen in the UK but how could the Italian banks afford it? So that would likely have to come from the taxpayer. The Alan Parsons Project covered this.

I just can’t seem to get it right
Damned if I do
I’m damned if I don’t

A bailout via the ECB seems much more likely and for its President it would have the beneficial effect of covering up past misdeeds. Also should he start running out of other countries bonds to buy it seems that there is likely to be a ready supply from Italy. Meanwhile though those who were painfully bailed in vis the Cypriot banks might reasonably think that they were not treated either fairly or equally.



24 thoughts on “Will Mario Draghi ride to the rescue of the Italian banks?

  1. Hi Shaun

    Frankly I can’t see this bailout by the ECB. It is so obviously a backdoor avoidance of the bail in rules it would be too much “in your face” to be tolerated in my view and it would simply make a mockery of EU rules, particularly those that have only been operational for six months or so.

    However, which is worse; break the rules or have a bank run, because that is what it will come down to? Once retail investors and depositors get hit then there really will be trouble and the whole EZ story may start a slow motion unravel.

    On the other hand what if it was DB? Can anyone seriously believe that the bail in procedures would apply to them? How many small businesses would be caught up in that?

    Draghi in effect is right; he’s saying that the bail in rules may be “inappropriate” and, considering the two alternatives of state aid or potential civil insurrection, the choice is clear when the “push comes to shove” moment is reached.

    • a good summary , Bob , but if the ECB “invents” some kind of aid then aren’t they:-

      1, hacking off the Germans

      2, seen to be U turning at the slightest headwind

      At some point all credibility will be gone , then it will not matter what Mario or the ECB do.


    • “A mockery of EU rules” – now that is a hard concept to grasp, given the:
      1. Greek debt on entry to the EU
      2. French and German deficits above 3% with no fines
      3. In fact, almost everyone’s deficits going above 3% with no fines
      4. Greek bailouts
      5. Italian debt
      There are only 3 real rules of the EU:
      1.If you are a small country or from southern Europe, you are cannon fodder.
      2. The answer to the question, whatever it is, is more integration
      3. Notwithstanding no growth, disastrous unemployment, hopeless government debt, the Euro is so sacred that it cannot be discussed in anything but reverential tones

  2. “in 2015 it was 25,479 Euro’s or 3.3% lower (2010 prices).” – which makes this all the more remarkable https://www.ons.gov.uk/employmentandlabourmarket/peopleinwork/labourproductivity/articles/internationalcomparisonsofproductivitysummary/2016-04-06

    Although (Pt 4) “Comparing average productivity growth rates since 2007 the UK ranks second bottom: only Italy has a weaker average productivity growth rate over this period”, Ital8ian productivity is still about 10% better than ours!

    • A very good point David. I was looking at a similar set of charts you mentioned on the 18th where you were commenting on the sacrifice of UK productivity in favour of non productive asset investment via housing.

      It calls into question just how “good” the UK economy is when the country known as being “unproductive” and inferior to the UK is in fact more productive than us!

      In the short time you’ve been commenting on here your comments are always thought provoking, illuminating areas I had never considered before. Have you thought of doing your own economics blog? I would certainly follow it with great interest. (as well as yours Shaun).

      • Unlike Shaun, a lot of my ideas are not terribly original – I have been reading Friedman’s ideas and about Erhard’s practical applications since the late 70s. I also took an MBA some years ago – it didn’t assume too much knowledge on any subject, so it covers the basics, tackles the fads and then moves on to the technical stuff. As well as Economics (where I scored a good A!), I am also currently studying an add-on called Practical History of the Financial Markets, which particularly looks at long term, often economic, effects on asset prices. The exams (which have no choice of questions!) will always score an answer highly whether the course material is applied well or if a different idea is logically advanced. So, I have really just paid attention to other people’s ideas, although I do enjoy being a critic of the likes of Lawson and Carney.

        Like everyone else, I am grateful to Shaun for giving us the space and excellent explanation of topics for us to comment on.

        • We are all derivative David, even Shaun and Milton Friedman (Adam Smith, Simon Kuznets, Irving Fisher et al). The real interest isin what the individual can contribute whether by developing existing theories or advancing theories of others.

          You should give it a go although I don’t guarantee I would always agree with your assessments but I always start with an open mind.

      • I think that may be something to do with the divisor – if overall population has an impact for example, then of course, Japan has a real weight to carry there (although it makes German productivity all the more impressive). It may also be down to bottlenecks – Japan’s population is pretty much packed in along the coastlines and its ports are actually quite small for handling the raw materials it needs to import. Kaizen is similar to Dutch ‘total football’ – great in itself, but there are other factors,which need to be managed.

    • The 2004 accession of many former Warsaw pact countries is a huge change forced on the EU. Compare average wages and we see that Poles earn a fraction of Western European wages 12 years later. Italy, France & Spain need devaluation. It is impressive that the German economy can thrive with such high wage differential. I won’t try to predict, but the economic affects of 2004 are not finished – further adjustment needed

  3. Hi Shaun,

    Excellent blog again.

    Where the ECB, EU and European governments have been keen to keep kicking the can down the road, it looks like they are getting close to the end and cliff edge! So after the privatization of profits as dividends and bonuses it is now the Eurozone taxpayers turn to collect the losses again!

    I recently watched a good lecture on the current state of play with TBTF bank reform and capital buffers. Although this has improved is it still much too low. An interesting comparison was made between banks and major other companies. This companies typically had 30% reserves and if they do at anytime have financial problems, restructuring was a private matter. The question was then asked with the banks generally greater risks should their reserves also be at 30%? For those that haven’t seen the lecture, it is well worth watching and can be viewed at:


  4. Shaun,
    It appears Renzi is highlighting Deutsche Bank’s difficulties as a form of mutual destruction if no bailout?
    Meanwhile French banks on the hook for Italian debt as in the earlier debacle in Greece !

    • Hi Chris

      I wonder how many google searches there are for Deutsche Bank now compared to the past! Up, up and away I would suspect.

      Meanwhile it got a mention at the ECB press conference yesterday except the journalist slightly bizarrely referred to a large financial institution in Frankfurt. The ECB? Allianz? The mention of the IMF narrowed it down but it was curious he did not simply say DB. Also it was pointless as it was too easy for Mario Draghi to reply that he does not discuss individual banks.

      The French banks are sneaking under the radar right now aren’t they?

  5. Hello Shaun,

    I wondered if you could do a quick review of the ECB and the EU banks debts versus assets

    like PIIGS liable for x trillion against Bundesbank x billion …..

    It would be great to have a ball park figure

    does anyone have a plan as to how Mario should “fix” this as Kan kicking is a bit passe now……

    including bail-ins , which I suspect the total debt is greater than all the EU savings ……ummm…


    • “…including bail-ins , which I suspect the total debt is greater than all the EU savings ……ummm…” – Same can be said for most countries, certainly the UK, US and Japan, the EU is a member of a much bigger club in that respect.

  6. I know that it is off topic, but am I alone in having a large grin at the news that Mme Lagarde is to be tried? I am sure that this darling of the establishment will be let off, but even so, it has made my weekend.

      • it would be the one a maths teacher uses ?

        or the economist one ?


        2+2 = 4


        2+2* = 5

        * ( imputed growth patterns and backward fitting , adjusting for solow constant / leaves on the line * bank holidays + housing costs ** )

        ** ( can be negative or positive dependant on socail trending media and cat video popularity )


        ambidextrous bipolar causal determinator result


  7. Hi Shaun, Mario will have to do “whatever it takes” in relation to Italy, if not then it is likely Italy will collapse and with Italy being similar in GDP to the UK but also similar to Greece in Debt to GDP ratio , it will take the EZ/Euro project with it.

    The most likely (certainly the most powerful) objectors to this action, Germany, will see the picture I have painted only too clearly and will realise that with the end of the EZ/Euro so their demise would quickly follow with a return to a very strong deutsch mark, so they will pay lip service to objecting to any bail out of Italy whilst ultimately allowing it.

    • Absolutely right. Shaun just tantalises us with these headline questions. Any disaster which can be forecast will be definition be avoided regardless of the so called rules. I can however see a mounting litany of cross over consequences that are not forecast and these can’t be dealt with since the ECB moves at a pace of 6-9 months.

      • Actually a fudge could yet be cobbled together in the future where Italy is allowed to crash, the EZ implodes and a new EU/EZ type organization arises, perhaps a two speed one where two separate groups of countries are created, each group consisting of a number of weak countries plus 1 or 2 strong countries with each group using it’s version of the Euro as currency,

        Although the 2 new structures would be significantly smaller than the EU they would be much more stable.

  8. Clearly, to overcame the problem of italian banks NPLs, stronger growth is needed, and this is the macroeconomic side. On political/statistical side take example from 2009 UK huge banks bailout: naming it “temporary” you don’t have to add the 1.990 billions of banks debt to the existing and growing public debt. So you have all the time you desire to solve/dilute the problem.
    It is so simple, isn’t it? Until now, in my knowledge, the only actual losses ECB suffered originated from Holland and Luxembourg banks, and no protest at all from other european taxpayer…

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