There was news today from both of Europe’s most fashionable zombie banks. Spanish Bankia is ready for a turnaround after yet another round of massive write-downs, and Italian Monte dei Paschi is set to receive €4.07bn in rescue loans from the Italian government.
As an observer of several banking crises, I have noticed that they follow a pattern following certain rules as they progress.
Previous bad news is always trumpeted as the end of the crisis. Yet, write-downs will grow as will the amount of state aid necessary to keep the bank in business. How quickly people forget the last banking crisis in the United States. For over a year, banks would announce billions of dollars in write-downs but with the caveat that non-performing assets had stabilized. They hadn’t, and the TARP rescue program was needed to prevent Bank of America and Citigroup, among others, from failing.
All forecasts inevitably miss to the downside. Attempting to predict future performance is very challenging, so people believe that we should cut bankers a little slack here. Yet, their forecasts during a crisis are always optimistic. No one ever surprises to the upside. This bias tends to prove that optimistic numbers are being issued in an attempt to stabilize the firm’s equity and debt prices.
Despite a poor economic climate, bank management will always claim that the bank is about to return to profitability. Spain and Italy are both mired in recession. Economic contraction reduces demand for financial services while simultaneously raising default rates. Yet, Bankia is convinced that it will post a profit this year. We’ll see.
Banks in the thick of a crisis follow these three rules, which serve as a prelude to nationalization. Based on what we have witnessed so far, how long before Bankia and MPB become wards of the state?