Why do European taxpayers continue to bail out eurozone banks ?

Watching IMF representatives and European policy makers bicker about whether Greece will attain some randomly determined benchmark or another by 2020 is akin to watching a scenario in a nuthouse. What makes me furious is the fact that the attainment of arbitrary benchmarks thought up by some non-elected bureaucrats determines the release of desperately needed financial assistance for Greece, and thus the fate of millions of suffering Greeks. 

Which brings me to my initial question: why are eurozone banks still being bailed out while the people in the Southern European periphery have to suffer under the troika's inhumane and economically non-sensical austerity policies ? Before attempting an answer to this question, let me provide some evidence for the dirty secret that, four years after the onset of the Great Financial Crisis, eurozone banks still need taxpayer support in the trillions (compare Yanis Varoufakis, "Europe after the Global Minotaur"):

• The ECB's long-term refinancing operation (LTRO) in late 2011 and early 2012 lent 1 trillion Euro to eurozone banks at 1% interest in exchange for questionable collateral in the form of sovereign bonds.  This highly lucrative operation for eurozone banks was designed to motivate banks to purchase Spanish and Italian sovereign bonds paying anywhere from 5% to 7% interest. It worked.  Between the end of 2011 and July 2012, european lenders increased their assets from $42 trillion to $45 trillion (see graph below).

• The March 2012 partial write-off of Greece's debt held by banks and private investors (the so-called PSI or private sector involvement) represents a huge subsidy for banks and a transfer of private investment risk to the public sector, i.e. the European taxpayer. Even though the market value of Greek bonds was discounted by 70-80% before the write-off, banks had to take a haircut of only 20%-30%, implying a taxpayer subsidy of between 50%-60%.
  
• To add insult to taxpayer injury, the new sovereign bonds issued in exchange for retiring the old, nearly worthless ones are guaranteed by the EFSF, i.e. European taxpayers. Thus, 65% of Greek credit risk (€194 bln out of €300 total) has been smoothly transferred to the European taxpayer. And Greece, by the way, ended up with a higher debt burden than before due to new loans it had to take on to repay the troika creditors.
  
• In August 2012, the ECB announced that it would buy an unlimited amount of sovereign eurozone bonds on the secondary market to keep interest rates and, thus, financing costs low for the countries concerned (mainly Spain and Italy). The dirty secret behind this operation lies in the fact that the ECB purchases raise the market value of these bonds held by banks and private investors, thus providing another taxpayer-financed subsidy. 

All in all, the corporate welfare payments to eurozone banks may cost European taxpayers hundreds of billions of euros, if not more, and the money does not even benefit the people who, by contrast, have to suffer dramatic cuts in wages and public pensions to free up money for their country's debt service and to improve competitiveness. 

So what explains this crazyness and why is it that the eurozone's financial sector has not been forced to deleverage and close down zombie banks instead of keeping them alive with taxpayer money ? 

Enter the Institute of International Finance

The answer to the question posed above might be found at the doors of an institution created 30 years ago, just two blocks from IMF headquarters in Washington DC, to represent the interests of the world's largest commercial and investment banks in debt restructuring negotiations with highly-indebted Latin American countries: the Institute of International Finance (IIF).

The IIF's membership in 1982 encompassed the eight largest US money center banks at the heart of the Latin American debt crisis: Citigroup, JP Morgan, Chase Manhattan, a.o. Today, celebrating its 30th anniversary, the IIF counts more than 450 members from over 70 countries, including a growing number of large insurance companies and investment management firms (regular IIF members) in addition to multinational corporations, trading companies, and multilateral agencies (associate IIF members). 

Until recently, the IIF was chaired by Josef Ackermann, ex-CEO of Deutsche Bank Group, who no doubt advised Charles Dallara, IIF Managing Director, the IIF representative during the Greek debt restructuring negotiations in early 2012. ....This might explain the very favorable terms banks got in the March 2012 PSI (see above). It might also be no accident that the IIF recently moved its headquarters close to the US Treasury, the most important player in the resolution of the 2008 Great Financial Crisis.

Despite its inconspicious name suggesting a research institute, the IIF's website until recently didn't hide its true mission: “being the most influential global association of financial institutions”, striving to fulfill this mission through the following activities (the mission statements below were taken from the website in 2011, they have since been toned down):

• “Systematically identify, analyze, and shape regulatory, financial and economic policy issues of relevance to our members globally or regionally.”

• “Develop and advance representative views and contructive proposals that influence the public debate on particular policy proposals, including those of multilateral agencies….”

• “Work with policymakers, regulators, and multilateral organizations to strengthen the efficiency, transparency, stability and competitiveness of the global financial system, with an emphasis on voluntary market-based approaches to crisis prevention and management.”

• “Provide a network for members to exchange views and offer opportunities for effective dialogue among policymakers, regulators, and private sector financial institutions."
  
  
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