Reverse contagion

By M.C.K. 

IN THE old days, banks in the rich world lost money after lending too much to the global South, which then affected their ability to make loans at home and to other poor countries. Now, thanks to the ongoing crisis in the euro zone, we are witnessing a new phenomenon, where banks that lose money in their home markets withdraw from otherwise profitable activities abroad. The latest quarterly review of the Bank of International Settlements (BIS) shows that the turmoil in Europe can be blamed for a significant contraction in cross-border lending to emerging markets since the middle of 2011. The biggest victims are the peoples of Eastern Europe. Call it a case of reverse contagion:

"According to our estimates, the importance of home country factors increased sharply during the downturn in cross-border bank lending that took place in the second half of 2011. During this period, home country factors contributed to more than 90% of the explained contraction...Euro area banks were responsible for roughly 70% of the shrinkage...The results suggest that banking sector stress in the late 2011 downturn was disproportionately more concentrated on euro area banks than on their counterparts from the rest of the world.”

"Our results show that home country factors related to advanced economy banks, especially to those in the euro area, led to substantial cross-border bank lending declines in the second half of 2011. The euro area crisis affected cross-border bank lending to emerging Europe particularly negatively.”

Moreover, the contraction in lending does not simply reflect changing portfolio allocations among euro area bankers; their exposure to sovereign debtors from the euro area has also collapsed. The BIS data also show that banks from America, Britain, and Switzerland have been eager buyers of euro zone sovereign debt:

In particular, bankers from outside the euro area seem to have an insatiable appetite for debt issued by governments in the euro zone’s “core.” These bankers always had much less exposure to the sovereign debt of the “periphery” so even though they reduced their lending by large amounts in percentage terms, the cutbacks have been relatively small in absolute terms:

The heavy dumping of peripheral debt can in fact be attributed mostly to the actions taken by banks based inside the euro area:

The euro crisis has already caused severe hardship to the people who live in the single currency area: tens of millions of unemployed workers, increasingly popular antidemocratic extremists, and even surging suicide rates. But, as the latest BIS report makes abundantly clear, those are not the only victims of the region's ongoing policy mistakes./economist