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April 23, 2016 | Eurozone Ministers Fear “Stampede Risk” in Bonds if Schaeuble Gets His Way

Mike 'Mish' Shedlock

Mike Shedlock / Mish is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.

German finance minister Wolfgang Schaeuble believes banks are too overloaded in the sovereign debt of their own countries.

Schaeuble also proposes such debt is not “risk free”.

Clearly Schaeuble is correct as proven by Greece and Cyprus. Differences in bond yields also offer proof.

To mitigate risk, the Netherlands and Germany are pushing for rule changes.. Would doing so create a different kind of risk?

Stampede Risk

The Sovereign-Debt Debate divides the Eurozone.

European Union finance ministers split over whether to impose restrictions on banks’ holdings of government bonds, as German Finance Minister Wolfgang Schaeuble found scant support from skeptical colleagues for his push to overhaul existing rules.

The Netherlands, which holds the EU’s rotating presidency, laid out five options for tackling the risks posed by banks’ state-debt pile for the bloc’s 28 finance ministers to discuss in Amsterdam on Friday. Schaeuble backed the Dutch initiative, while others, led by the Italian, Pier Carlo Padoan, warned that changes could destabilize the financial system and said the issue was too big for Europe to crack on its own.

The EU faces a tough political battle over changes to the regulatory treatment of government bonds. The issue has become a focus of political debate in recent months because of Germany’s insistence that the euro area should reduce the risks banks are facing, including government debt on their balance sheets, before creating a common deposit insurance system to round out the so-called banking union.
Concentration Limits

The two main options on the table for dealing with sovereign bonds would be to impose limits on the concentration of debt that banks can hold, or to limit the current practice of treating many sovereign bonds as risk-free for regulatory reporting.

Support for the German’s position was muted at best.

“The most preferable option is the status quo,” Padoan said, because this wouldn’t force banks to reshuffle their debt holdings, “creating the problem of where this debt will end up. This would provoke a readjustment shock in the market.”

‘Massive Sell-Off’

The conversation in Basel may not go smoothly, given the resistance to change from countries outside Europe as well as in the EU.

“It is clear that zero risk weights for all sovereign risk aren’t realistic,” Nobuyuki Hirano, president of Mitsubishi UFJ Financial Group Inc., said earlier this month.

Stampede Risk

In Europe, the issue is particularly important in Italy, where domestic state debt accounts for 10.5 percent of banks’ total assets, well above the euro-area average of 4.2 percent, according to European Central Bank data. In France and Germany, the figures are 2.3 percent and 3.2 percent, respectively.

Maltese Finance Minister Edward Scicluna said more study was needed on the potential impact of changing the rules on banks’ state-debt holdings before action is taken.

“Divesting banks so quickly from this could create a stampede,” he said.

Too Big to do Anything About

Despite the obvious fact zero-risk weights are ridiculous, doing anything about the problem is an “issue too big for Europe to crack on its own”.

What do they want, a guarantee from the Fed?

Mike “Mish” Shedlock

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April 23rd, 2016

Posted In: Mish Talk

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