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The Italian Job – “Hang on lads; I’ve got a great idea”

Last week we saw the winding down of two failing Italian banks – Veneto Banca and Banca Popolare di Vicenza, both based in Italy’s prosperous industrial north-eastern region. It should come as little surprise to most investors - more than ten years after the onset of the global financial crisis - that the de facto Italian regulatory strategy of “pretend and extend” has finally proven to be unsustainable.

The two banks had already been taken over by a government-sponsored and privately-backed rescue fund. Both banks continued to hold staggering levels of non-performing loans on their books. The percentage was an eye-watering 37%. Compare that to the (still remarkably high) Italian average of 18%. The banks’ operating costs were unsustainable, and both had suffered from continuous outflows of deposits. Between June 2015 and March 2017 the banks lost 44% of their deposit bases. The cost to the Italian taxpayer will be considerable – estimates range upwards of €17bn. The decision to protect senior bondholders and large depositors has added to the cost - and certainly adds further moral hazard to the Italian financial system.

Between June 2015 and March 2017 the banks lost 44% of their deposit bases.

Coincidentally, in the same week that Italy slowly started to admit the weaknesses in its banking system, Allied Irish Bank returned to the Irish stock market. AIB rode the Celtic Tiger right into the heart of Ireland’s financial crisis. The mess created by the Irish banking sector was of a greater magnitude relative to the size of the economy than even the Italians have managed, with bank lending amounting to twice Ireland’s GDP. However, and in contrast to the Italian authorities, the Irish regulators and political establishment admitted the (many) mistakes of their banks and were realistic about the implications. The return to the market of a now well-capitalised AIB is testament to Dublin’s success in this major task.

Well-functioning banks, and the credit they extend, are the oil in the wheels of every market economy. Ireland is almost a decade ahead of Italy in acknowledging its banking mistakes. That fact goes some way to explaining why Ireland is likely to be, for the fourth year running, one of the fastest-growing economies in the world. As Italy contemplates another year of economic torpor, it is clearly time to take a leaf out of Ireland’s book.

Editorial image: Moviestore collection Ltd / Alamy Stock Photo

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