Bank Fraud In The Eurozone

It is quite evident that the scale of the Cypriot banks’ insolvency far exceeds their holdings of defaulted Greek government bonds. It appears that a very high proportion of their other assets are worthless also (although you wouldn’t know it by reading their audited financials). The phenomenon of horrific loan quality has characterized the eurozone banking crisis (sort of a truism, I guess). Notable examples have been Anglo-Irish in Ireland, Bankia in Spain, Banca MPS in Italy, and now the Cypriot disaster. In each of these cases, the loan write-downs have been very large in percentage terms. When half of your loan book is bad, you are more than merely insolvent, you are suspiciously insolvent.

The general European reaction to this phenomenon has been “poor underwriting” and “real estate bubble”. You don’t hear enough about “bank fraud”. It’s worth remembering that for every large defaulted loan there is a rich borrower who is very possibly a crook. I recall a finance minister explaining that his country’s new president was honest because he had published the names of defaulted borrowers and was pursuing them for collection. Living in an anglosaxon country, I had always just assumed that banks pursued defaulted borrowers (at least outside of Texas). The finance minister explained that, in his country, banks had never pursued defaulted borrowers because they were all related or connected (also known as generals) . The new president was scrapping that tradition. (Note: that president and his finance minister are long gone and I am sure that things are back to business as usual in their famously corrupt country.)

In Japan, after the real estate bubble collapsed, foreign entrepreneurs bought bad loans on the theory that they could foreclose, and then re-lease or resell the properties at market rates. These foreigners did not count on the fact that the Yakuza were the borrowers/owners/occupants, and disliked loan collectors.

Bad loans, corruption and borrower fraud are peas in a pod. This certainly applies to Club Med. Billions of euros have “disappeared”, only they didn’t disappear--they are just in someone else’s bank account. I’m not denying that Club Med is dotted with half-built properties of every description: I’ve seen them myself. Not all the money went from one pocket to another--but a lot of it did. A lot of bad loans were made to “connected” borrowers, probably most of them. The tale of Bankia in Spain is particularly sordid, worse than Texas at its worst.

In the US, when the government was forced to pay off the liabilities of the entire bankrupt Savings & Loan industry, it took over their loans, foreclosed on the borrowers, seized their assets and then sold them to the public within two years (via the Resolution Trust Corporation). As far as I know, the whole operation was clean and above-board, and the government was able to recoup billions in the process. Not enough of the fraudsters went to jail, but they did have to give back their assets.

I don’t see any evidence of this happening in Europe. In the case of Bankia, the government intends to hold onto its bad loans for years. An uncollected loan is an outright gift to the borrower, and Bankia’s borrowers are well-connected. In the case of Banca MPS, I’m sure that we will also start hearing hair-raising tales of corruption, and very little about loan collection.

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What we are witnessing in European banking today is a saga of bad assets carried as good assets, bogus accounting, hopeless insolvency, and billions in uncollected bad loans. A good definition of a Third World country is one in which bank loans are made but not collected. My gut tells me that Club Med fits that definition.

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