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Colin Throssell

Balkanisation: The phenomenon

Colin Throssell, Head of Property Treasury, discusses how Balkanisation has become an ever-increasing feature of banking since the collapse of Lehman Brothers in 2008.

Balkanisation refers to the disintegration of traditional cross-border banking, as institutions retreat to protect themselves from the risks posed by the globalised financial system. This may mean that international banks withdraw altogether from financially distressed regions (such as certain parts of the eurozone), or at least make their regional subsidiaries self-standing. The inspiration for the term stems from the break-up of countries in South-East Europe, starting in the early 19th century with the break-up of the Ottoman empire and continuing right through to modern-day geopolitics.

Balkanisation has become an ever-increasing feature of banking since the collapse of Lehman Brothers in 2008, owing in part to the reticence of banks themselves to expose themselves in too many territories, and the actions of national regulators in toughening their stances on, particularly, capital adequacy. Latest figures from research company McKinsey & Company suggests that cross-border capital flows have retreated by 60% since their peak of $11.8trn in 2007. Much of this appears to be down to the decline in cross-border claims by Eurozone banks, which fell $3.7trn since 2007.

However, there are some, including European Central Bank’s (ECB) president Mario Draghi and Bank of England’s Governor Mark Carney, who fear that the rush to balkanisation carries drawbacks too – ones that you might typically associate with the loss of globalisation: less cross-border trade and competition in financial markets, and therefore higher interest rates for borrowers; less economic growth; and fewer jobs.

It is no coincidence that Draghi, arguably the most influential figure over the future of the euro, should be worried about balkanisation. After all, it has been the doubts over the eurozone that have proved the most powerful motivations for banks to separate out their exposures.

The storm in 2012 over the potential break-up of the eurozone is a case in point. Worries over a two-speed eurozone, effectively of the single currency breaking into two, meant that many international banks sought to match assets with their liabilities within national boundaries. Although this concern has receded – for now – the balkanisation of a bank's balance sheet would protect it from loans made in one denomination of euro with debt issued from a secondary form of euro.

The jury is out over whether the ECB's moves toward banking union will overcome some of the balkanisation among Europe's banks. Having taken its first major steps toward a union in October 2013, optimists will say that the ECB’s supervision of banks under its aegis will restore confidence and therefore overcome the division of banking capital along national lines.

However, the pessimists will point out that regulation will encourage more balkanisation. Research by Morgan Stanley points out a host of examples where national regulators have forced banks to increase capital levels and keep funds in their geographic locales: the German financial regulator (BaFin) has exerted pressure on UniCredit to limit the amount of funding it provides non-German operations: in the UK, regulators have become increasingly focused on capital and liquidity ratios of foreign-owned subsidiaries.

In the first half of 2013 the US Federal Reserve conducted a consultation aimed at reshaping the regulation of foreign banks’ operations in America. The likely result will be further asset/liability matching, via ring-fencing foreign banks' American operations into separately capitalised and regulated subsidiaries. It is hard to see how this move will avoid further balkanisation.

Colin Throssell

Colin Throssell

Global Chief Financial Officer

Colin's biography