Of the deluge of alarming analyses and media commentary on the Irish/European debt crisis that have emerged over the last 24 hours, surely the most unnerving proposition is that the financial markets have already moved on from Ireland and all attention is now focused on Portugal.  The “worst-case scenario” consequences feared from such a development are the spread of the financial contagion from Portugal to Spain (which, given the size of the Spanish economy would be difficult for the EU and IMF coffers to contain), and ultimately an existential crisis for the euro currency. Whether or not this worst-case scenario comes to pass remains to be seen, though recent increases in Portuguese and Spanish bond yields are far from reassuring. With this risk of financial contagion in mind, one wonders just how exposed are European member states to one another’s debts? The chart (below) from a recent Bank of International Settlements quarterly report illustrates just how interwoven the EU member states are in terms of the financial exposure to one another.

A number of features BIS quarterly report have surfaced in recent analyses but perhaps have not been succinctly stated:

  • As has been recently reported elsewhere, total exposure of British based banks to Ireland is in the region of $230 billion. Exposure of German banks is not far behind at $175 billion.
  • The chart above distinguishes between foreign claims on the public sector, the banking sector, and the non-bank private sector. In both the Irish and Spanish cases, the share of British, French, and German bank exposure to the non-bank private sector appears to be very high. One wonders what exactly will be the consequences of this. Does this mean that even when Irish banks are bailed out, there are still substantial non-banking sector debts that have to be tackled? Do these debts relate entirely to the legacy of Irish property development mania or is this exposure spread more broadly across the Irish economy?
  • Government debt accounts for a relatively smaller part of euro zone bank exposure to Ireland than in the cases of Greece, Portugal, and Spain.
  • It’s also apparent from the chart above that whatever Greece’s woes may have been, they didn’t stem from a bank crises on the scale of the shocking fiasco Irish banks have become embroiled in. Or, as the Greek finance minister succinctly put it, “Greece is not Ireland”.
  • That said, it’s clear that German and French banks were very exposed to Greek debt and are also very vulnerable to Irish, Portuguese, and (in particular) Spanish debts.
  • As one would expect, Spain does indeed face the largest exposure to Portuguese debt (coming in at over $100 billion). However, this is by no means the largest exposure of an EU member state to a peripheral neighbour, as indicated by the British banks’ exposure to Irish debts.
  • As of 31 December 2009, banks headquartered in the euro zone accounted for 62% of all internationally active banks’ exposure to Greece, Ireland, Portugal and Spain. However, that’s not to say that the other 38% is of no consequence! US banks, in particular, appear to have a significant exposure to both Ireland and Spain.

All in all, one would be forgiven for thinking that  the kindness of strangers is driven by the desperation of worried bankers.

Declan Curran

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