Risk of new banking crisis as 'kick and hope' strategy runs out of road
Brexit has hit Europe's recovery and the biggest casualty will be banking
The acute phase of the eurozone sovereign debt crisis in 2012 was triggered in Italy, not in Greece or one of the other small peripheral economies. The European Central Bank eventually took action - an Italian collapse would have threatened the survival of the common currency - and crisis was deferred. But the eurozone banking system has not been fixed, and the extend-and-pretend tactic is facing another challenge. UK Prime Minister David Cameron's referendum gamble has not merely come unstuck, it has gone wrong at the wrong time.
Europe's fragile recovery is threatened by the Brexit decision. Sterling has fallen sharply and surveys of business confidence have turned suddenly negative in Britain and elsewhere in Europe. There is a risk that corporate investment, weak before the vote, will dip further and consumer confidence has also taken a knock. There is greatly increased volatility in asset markets, and forecasts of economic performance across Europe have been trimmed back. The uncertainty stemming from the Brexit decision will persist until the new relationship between Britain and the EU is clarified, which could take several years.
The biggest casualty in Britain and the eurozone has been confidence in the banking sector. Bank share prices have weakened as investors fret about further loan losses and inadequate loan-loss provisions. Shares in Deutsche Bank, the eurozone's largest, trade at 30pc of book value. The most acute problem is in Italy, where the banking system has yet to deal decisively with non-performing loans. Since the extent of the banking crisis began to emerge in 2008, eurozone policy has insisted on a 'too little, too late' approach to fixing bank solvency. Stress tests on bank balance sheets have been too lenient and too little fresh capital has been raised.