HOSE old enough to remember the euro crisis of 2010-12 will have had a slight sense of déjà vu on June 15th, when the European Central Bank called an emergency meeting. On the agenda were the widening differences, or spreads, in interest rates on government bonds of euro-zone countries compared with the benchmark German bund. Those spreads came down after the ECB promised to intervene with a yet-to-be-designed programme. But fears of a euro crisis 2.0 have lingered.
The riskiest link is between banks and governments. After the financial crisis in 2008, banks in highly indebted euro-zone countries started to buy large amounts of government debt. Between 2009 and 2015 in Spain, for example, banks increased their holdings of Spanish government bonds from around 2% of total assets to over 9%. National banks had an advantage over international rivals because politics made it harder for governments to default on them.
The second part of the doom loop is between banks and the economy. Europe is a largely bank-based economy. A hit to the banking system that impairs its ability to lend to companies and households hurts the broader economy, and a weaker economy in turn leads more firms and households to default on their loans or mortgages, hurting banks again. Between 2008 and 2015, the share of non-performing loans owed to Italian banks rose from around 6% of total loans to 18%.
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