Italy’s banks are on the brink of collapse, but the E.U. is forbidding a bailout.
Italian Prime Minister Matteo Renzi (L) appears along side German chancellor Angela Merkel and French President François Hollande. Italy's banking crisis is a problem for them all.
Italian Prime Minister Matteo Renzi (L) appears along side German chancellor Angela Merkel and French President François Hollande. Italy's banking crisis is a problem for them all.
Pacific Press via Getty Images

When United Kingdom voters chose last month to leave the European Union, the popular wisdom was that it was an act of economic self-harm for Britain.

Now it appears that the U.K. may be taking down the continent along with it.

The so-called Brexit, or British exit from the EU, has provoked uncertainty that is hastening the crisis facing Italian banks. That, in turn, has European leaders worried about another continent-wide financial crisis.

Italy’s major banks, including UniCredit and Banca Monte dei Paschi di Siena, are teetering under the weight of the 17 percent of their loans that borrowers have stopped repaying. For some perspective, just 5 percent of Americans’ loans had gone bad at the height of the financial crisis in 2008-2009.

As the Associated Press explains, the Brexit prompted concerns that a “slowdown in trade with Britain would only increase the bad loan problem” in Italy.

The Wall Street Journal noted the Brexit “has compounded the strains on Europe’s banks in general and Italy’s in particular,” threatening to “spark a crisis of confidence in Italian banks.”

As one expert told the outlet:

“Brexit could lead to a full-blown banking crisis in Italy,” said Lorenzo Codogno, former director general at the Italian Treasury. “The risk of a eurozone meltdown is clearly there if Brexit concerns are not immediately addressed.”

Having exhausted more conventional tools, including a “bad bank” to absorb the non-performing loans, the Italian government wants to bail the banks out. But the European Union, led by the continent’s powerhouse, Germany, has warned the Italian government that doing so would violate EU rules. They want Italy to do a “bail-in” instead, wherein banks take from borrowers’ deposits to shore up their balance sheets. But such a move risks provoking a run on banks, which would require even more extraordinary stop-gap measures.

The crisis in Italian banks is not just about narrow economics. It is about whether the EU will continue to function as a political entity ― or if the Brexit is the first pulled thread in a slow unraveling of the world’s largest single market for goods and services.

So far, Northern European nations have handled the Italian situation the way they dealt with the 2008 financial crisis and its aftermath ― treating issues as the come up in a series of seemingly endless miniature emergencies. Germany, in particular, has been intent on disciplining the financially distressed Southern European nations to avoid future misbehavior, whether it’s the practical course of action or not.

For example, the E.U deferred dramatic intervention in Greece’s debt crisis until the last moment in 2010, when the problem finally became unavoidable. Since then, it has pursued a policy of forcing Greece to take out new loans to pay off its old loans on steeper terms, with only a prolonged recession to show for it.

Many observers in Greece last week said they think the Italian banking crisis is another breaking point for the old approach to punishment and austerity. The rise of various far-right movements across Europe suggests that this approach is not especially popular, they noted with a hint of vindication.

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