What's Behind Europe's Bank Bailouts

Officials have taken action on five overstretched financial institutions in the past few days, in Belgium, Britain, Germany, and Iceland

by Stanley Reed

Critics have faulted European governments for not doing enough to ease the worsening financial and economic crisis in their own backyard, but officials have moved with lightning speed this week.

Beginning over the weekend, they have bailed out or taken over five financial institutions (BusinessWeek.com, 9/29/08), including two in Belgium (Fortis and Dexia), British mortgage lender Bradford & Bingley (BB.L), Germany's Hypo Real Estate (HRXG.DE), and the third-largest lender in Iceland, Glitnir bank. In addition, the Irish government stepped in on Sept. 30 to guarantee the deposits of savers at Irish banks, which are now a cause of anxiety because of the cooling of one of the world's hottest real estate booms.

Both the $16 billion partial nationalization of Fortis (FOR.BR) and the $9 billion Dexia (DEXI.BR) rescue involved multiple governments: the Benelux countries in the case of Fortis, and the French and Belgian governments, along with Belgian regions and private investors, for Dexia. While it's more than a little worrying to see bailouts spreading across Europe, it's encouraging that governments were able to cooperate and raise big sums to save cross-border institutions.

Stunned by Congress

These moves at least temporarily calmed the European stock markets and for a moment have made Europe look good in comparison with the U.S., where the rejection of the Bush Administration's $700 billion bailout plan for the financial system by the House of Representatives stunned watching Europeans. Speaking on a BBC program on Sept. 29, European Trade Commissioner Peter Mandelson said: "I feel they've taken leave of their senses," referring to Congress.

One of the criticisms of the euro zone financial architecture is that the European Central Bank does not have "lender of last resort" responsibility and a clear mandate to deal with troubled financial institutions. In the absence of such powers, governments have stepped in, but observers think that these events underline the urgency of giving the ECB the needed firepower to act decisively. "I believe this should be a signpost for the future," says Richard Portes, a professor of economics at London Business School. "They should waste no time in giving the ECB enhanced authority. In due course this could be one of the fortunate consequences of this [situation]."

But as the Dexia bailout on Sept. 30 underlined, brush fires are still licking around the flanks of the European banking system. The biggest casualty so far has been Fortis, a midsize bank that reached too far in swallowing about a third of Dutch bank ABN Amro, which was the subject of one of Europe's hardest-fought takeover battles, between Britain's Barclays (BCS) and a consortium led by Royal Bank of Scotland (RBS) that also included Fortis and Spain's Santander (STD). The RBS group eventually prevailed for a price of about $102 billion last year, as Barclays management declined to participate in an all-out bidding war.