FRANKFURT/ATHENS: As the European Union struggles to bail out debt-stricken countries, a long-term trend could doom its efforts regardless of how much money it pours in: deposit outflows from commercial banks.
Savers and investors in Greece and Ireland are withdrawing money out of concern about the health of the banks, and because they fear the consequences if their countries are eventually forced out of the eurozone, which would probably mean the introduction of national currencies at sharply devalued levels.
The outflows have not so far hit disastrous levels, but the slow bleed is large enough to raise questions about the capacity of those economies to recover – and to risk bank runs that would destabilize European financial markets.
“There is a fear” of a run on banks, said BNP Paribas economist Kenneth Broux. “We’ve seen deposit flight in Greece and also in other countries. It is happening because of speculation about the doomsday scenario of a country having to leave the monetary union at some point.”
Household and corporate deposits at banks in Greece, including branches of foreign banks, have dropped about 19 percent from their peak in September 2009 and are at their lowest since November 2007, according to European Central Bank data. Irish bank deposits are 9 percent below their August 2008 peak, and in March they were at their lowest level since November 2006.
Bank deposits in other weak eurozone countries have remained remarkably stable, suggesting the public and investors in those countries are still relatively confident that authorities can protect their banking systems.
In Portugal, which is receiving a 78 billion euro ($112 billion) bailout from the EU and the International Monetary Fund, deposits have actually been rising.
In Greece and Ireland, much of the deposit fall is “cash-burn,” a natural, inevitable response to the economic slump. Drops in real wages and profits have hit disposable incomes, forcing households and businesses to tap savings to fund consumption and operating expenses.
A significant portion of the outflow, however, appears to be in search of safe havens. Some money is going into gold or fixed assets, while some is being sent abroad.
Bank of Greece estimates show more than one-third of total deposit outflows since the country’s debt crisis erupted last year have headed for financial institutions abroad.
Bank deposits in Cyprus have shot up, apparently because of the island’s close cultural and economic ties with Greece; worried Greeks are transferring money to Cypriot banks which they see as safer. This could backfire, however, if Greece eventually defaults on its debt – credit rating agencies have warned that Cypriot banks are heavily exposed to Greek debt.
Analysts do not expect the deposit outflows to turn around in the near future, and possibly not until the EU alters its approach in the bailouts. These have so far focused on buying time through injections of emergency loans and have not convinced financial markets that countries can grow out of their debt problems.
“Until there is a holistic solution then the risk of flight could increase and potentially spread,” Broux said.
The fears of bank depositors may be excessive. Most analysts still think countries are very unlikely to be forced out of the eurozone; governments are working hard to protect their banking systems. Ireland plans to pump 24 billion euros into its banks this year, on top of 46 billion euros previously; Greece has a 10 billion euro fund to top up banks’ capital if needed.
Although many banks in Greece, Ireland and Portugal have been shut out of money markets, the ECB is still offering them unlimited amounts of funds in its lending operations.
But some analysts think that efforts underway by the EU to persuade commercial banks to roll over their Greek debt, and thus share the burden of supporting Greece, could worsen the situation. The proposed rollover is much more mild than a full-fledged debt restructuring, but if investors conclude it could weaken the Greek banks which are being asked to participate, deposit outflows could accelerate.
“We are in a process where deposit outflows could be viewed as worrisome … what could go wrong is related to what is going to be private sector involvement,” RBS economist Silvio Peruzzo said.
“That could be the catalyst for deposit outflows and have systemic implications for the banking sector.”
If bank runs developed, the ECB could be expected to provide loans to try to calm the markets. The Greek and Irish governments might not be able to afford fresh capital for the banks, but rich EU governments could well step in to supply capital in order to prevent damage to Europe’s banking system.
The process would be risky and politically difficult, however, especially since taxpayers in rich states are growing increasingly weary of aiding indebted countries.
Some analysts believe the worst of the capital outflows may already have passed and that barring an outright panic, the bulk of deposits left at banks in Greece and Ireland will stay put.
“The trend is not dangerous at this point but it certainly isn’t pleasant,” said Michael Massourakis, chief economist at Greece-based Alpha Bank.
“The hot, sophisticated money has already left – we have seen the worst. The ongoing decline now is more related to cash-burn.”
But if the Greek government again fails to meet its targets for cutting its budget deficit under its bailout plan, outflows could once again gain speed, he added.
The most important factor in the equation may be economic growth – both because growth would help countries meet their deficit targets, and because it could generate a virtuous circle of new deposits and returning depositor confidence.