German Chancellor Angela Merkel and French President Nicolas Sarkozy are in a public dispute as to how to recapitalize woefully undercapitalized European banks.

Via Google translate, please consider Merkel and Sarkozy on Sunday concoct a new plan to recapitalize banks

German Chancellor Angela Merkel and French President Nicolas Sarkozy, meet tomorrow in Berlin to lay the foundations for a new program to recapitalize European banks.

The umpteenth emergency meeting of the two leaders since the crisis began will try to outline a mechanism agreed to provide public funds to private financial sector in Europe in the event that Athens was doomed to see a default, a hypothesis increasingly shuffled in Europe.

The main pitfall of the meeting is that despite the good feeling that boasts the Franco-German axis, Berlin and Paris have called for different models of bank recapitalization, each with the interests of his country in mind.

The Chancellor stressed that it would be best that the banks themselves were able to raise funds “for his own,” ie in the market or, alternatively, that national governments take charge of their recapitalization needs, a position broadly shared by Brussels.

Only if they fail the first two springs, and if it is a bank of “systemic”, states could resort to EFSF to support the institutions in trouble, a measure that would require some “conditionality” reciprocal form of “structural reforms “.

The French position, meanwhile, denies this response in three steps and openly advocates that is used in the first place EFSF capital.

The French Finance Ministry itself said yesterday that there is “divergence” between Paris and Berlin and that both nations agree that the European banks need more money.

According to the IMF, the need to recapitalize European banks is between 100,000 and 200,000 million euros, well above as outlined in the stress tests conducted in July by the European Banking Authority (EBA).

The “stress test” made in July, in which cited eight banks, five of them Spanish, assumed sovereign bond holdings, including Greece, had zero risk.

A similar report appears in Reuters: Germany, France split on bank aid before summit

Under strong U.S. and market pressure Chancellor Angela Merkel and President Nicolas Sarkozy will try to bridge differences on how to use the euro zone’s financial firepower to counter a sovereign debt crisis that threatens the global economic recovery.

A ratings downgrade on both Italy and Spain by Fitch Ratings on Friday underscored the grim climate.

A German source said Paris wanted to be able to tap the euro zone’s 440 billion euro rescue fund to recapitalize its own banks, which have the largest exposure to peripheral euro zone debt, while Berlin insisted the fund should be used only as a last resort when no national funds are available.

After meeting Dutch premier Mark Rutte, Merkel confirmed the German position was that the European Financial Stability Facility was a backstop to be used “only if that country is unable to cope on its own.

“I hear that the French are scared that too much bank recapitalization could jeopardize the French AAA and that is why they push for the EFSF solution for French banks. I expect Merkel to stick to national funds for recapitalization,” said economist Jacques Delpla, a member of the French government’s advisory council of economic analysis.

France has the highest debt-to-GDP ratio of any of the six triple-A countries in the euro zone at 86.2 percent.

If France, the second largest guarantor of the rescue fund after Germany, were to lose its top-notch rating, the whole edifice of financial support for Greece, Portugal and Ireland would crumble.

“The main issue is a crisis of confidence in the sovereign. … What is important is to deal with the Greek issue as quickly as possible and then rebuild confidence in the capacity of each bank in Europe to reduce its debt,” Oudea said at SocGen’s Paris headquarters.

France and Belgium are arguing over whose taxpayers should pay to salvage cross-border municipal lender Dexia, which came close to collapse this week and is to be broken up.

Moody’s Investor Service on Friday said it may cut Belgium’s credit rating.

Until last week, the position of France was that French banks have no toxic assets. This prompted me to write on September 25 Desperate Times Lead to Desperate Lies; Europe Weighs the Weightless; Even Citigroup Sees the Lies

Are central bankers and politicians really as stupid as they sound or are they pathological liars who simply cannot help it?

Check out these preposterous lies by Bank of France Governor Christian Noyer as quoted by Bloomberg in Noyer Sees ‘Absolutely No Reason’ to Use Bank Backstop

Noyer Lies

  1. “I’m extremely confident” in French banks because “we know them very well. We know their balance sheets, their risk assessments. We know they have no toxic assets.”
  2. There is “absolutely no reason” to activate a support system for the nation’s banks that was set up during the financial crisis in 2008.
  3. Markets “are over-reacting,” he said. “They need to come back to a sense of reality.”

All of those are blatantly preposterous. However, lie number 1 has to be one of the top lies of the year. “French banks have no toxic assets”?!

For starters, what about Greek bonds about to take a 50% haircut or more in default? That lie is so ridiculous no one on the planet can possibly believe it.

On October 3, Dexia bank became the First Casualty of Greek Default.

Now Merkel and Sarkozy are in an open feud over what to do about it. Bear in mind this is not about Dexia, the entire banking system is insolvent.

Mike “Mish” Shedlock
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