An elaborate confidence game.

By Don Quijones, Spain & Mexico, editor at WOLF STREET .

In today’s Europe, the most important rules are made to be bent, if not outright broken. So it goes with Italy’s blossoming banking crisis.

Earlier this week, Italy’s €40-billion bailout proposal was mercilessly scrapped by Germany, on the grounds that it contravened Europe’s new bail-in rules. Cue Plan B, as reports surfaced today that the EU had authorized the country to use “government guarantees” to create a “precautionary liquidity support program for their banks.“ The total amount currently doing the rounds is €150 billion.

That’s a lot of money, even by today’s inflated standards. In the initial bailout of Spain’s saving banks, in 2012, the EU provided Rajoy’s government with just €40 billion of fresh cash. If the latest reports are true, Italy just received almost four times that amount.

But did it, really? Does the money even exist?

After all, government guarantees are not the same as cash in hand. According to Reuters, the ECB’s latest move, which has received scant attention in the press, is more of a political stunt than a prudential one:

[The funds] won’t actually be used, and don’t solve banks’ main problem – capital holes. Instead, the aid has a secondary purpose: to show Prime Minister Matteo Renzi can do deals in Brussels… Italy is using the panic from the UK vote to ask the European Commission to let it bail out its banks and skip state-aid rules. Getting the green light would provide an even bigger boost to Renzi’s chances in the referendum, yet the Commission may not approve such a flagrant bailout. As such, getting the go-ahead even on unused guarantees is a start.

The word “unused” is a curious choice of term, especially given that the same article stresses that the funds won’t “actually” be used, for the same reason that they would constitute illegal state aid and contravene the EU’s new bail-in rules. In other words, they will be unusable, which is surely a roundabout way of saying “useless.”

The Commission has also stipulated that only “solvent” banks are eligible for the “precautionary” scheme, as if Italy, where banking stocks have fallen by a mind-blowing 54% in just the last six months into penny-stock territory, is just brimming with banks that are perfectly solvent but would nonetheless appreciate the kind offer of new funds they can’t use.

The scheme is clearly a desperate ruse, but if it can temporarily convince enough voters, investors, and bank depositors that things are not quite so bad in Italy anymore, that the banks finally have something of substance — and not just unusable, inaccessible funds — backstopping their €360 billion worth of non-performing loans, it will have served its purpose.

Perhaps things might even improve enough to enable Italy’s Prime Minister Matteo Renzi to buck recent trends in Europe and actually win a national referendum, scheduled for October, which would allow him to ram though changes to the country’s constitution. If he doesn’t, it could, as Reuters warns, become a vote against him, or yet another against the European Union, and sink the government:

Banks’ collateral might then collapse if markets start to fear the radical Five Star Movement is about to win power and take Italy out of the euro zone. Fears of a bank run could escalate if Italian banks start to fail European Central Bank stress tests.

The race is on for Italy to create a big enough cushion for Italy’s chronically under-capitalized, bad-debt bedeviled banks before publication of stress test results, expected at the end of July. According to the Financial Times, senior bankers fear the banks will “emerge poorly” from the tests, triggering yet another cascade in share prices.

Fortunately, in February, the ECB came up with an ingenious strategy to make sure that probably doesn’t happen: not a single bank will be able to pass or fail. In the words of the European Banking Authority, they are in a “steady state” and are therefore expected to remain that way.

Thanks to this elaborate confidence game, based on stress-free stress tests and unusable financial backstops, Italy’s — and Europe’s — day of reckoning may be put off for just a little while longer. But the tensions continue to build under the surface.

The ultimate irony is that if the ECB cannot save Italy’s banks from their fate, the chances are that the one country that finally topples the Eurozone’s flimsy house of cards will be the same country whose financial system had been supervised (a term I use in the loosest sense) for six years by current ECB President Mario Draghi. As the old adage goes, what goes around comes around. By Don Quijones, Raging Bull-Shit .

And for the EU to try to make an example of the UK will likely backfire. Read… Who Really Holds the Cards in the EU-Brexit Stand-off?









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