July 16, 2012
The combined effect of the sovereign debt and financial crises is that cross-border linkages in the EU are now significantly weaker than a few years ago, reversing a lot of the progress made pre-crisis. 1) European banks’ claims on other western European countries have slumped by 28% since peaking in early 2008. 2) Bonds issued by foreign non-banks in other EU countries declined from 45% of euro-area banks’ total bond portfolio in 2007 to just 27% at the end of 2011. Holdings of foreign sovereign bonds fell from 22% to 11%. 3) Funding from foreign banks fell from 12.7% of EU-15 banks’ total assets in 2007 to 7.5% in 2011. 4) Domestic securities now account for two-thirds of the collateral used in ECB refinancing operations, compared with 49% in 2007. 5) Within Germany, foreign banks’ market share in lending to the manufacturing industry has declined steadily from 16.3% at end-2008 to 11.7% now.
Financial disintegration in the EU is the result of market forces as much as regulatory and political influences and, ironically, is unfolding as policymakers discuss the creation of a European banking union. Whether the latter will be able to halt or even reverse the former will be crucial for the survival of the single market in financial services.
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