Does Dexia's Collapse Herald A Wider Banking Crisis?

Until now, the eurozone debt crisis has been confined to countries on the continent's periphery — like Greece, Spain and Ireland. But that may be changing with the collapse of a bank at the core of the eurozone. While some call Franco-Belgian lender Dexia's demise an exception, others say it is a wake-up call for all European banks.

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In Europe, the effort to fix the euro crisis has been dealt an outsized blow by a tiny country. Slovakia's parliament rejected a bailout bill, which, in turn, triggered the fall of Slovakia's ruling coalition. The country is one of the eurozone's poorest members, and so there's not much popular support for a deal to aid the faltering economies of richer countries. Slovakia is the first government to collapse due to the crisis.

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And that crisis has also caused the collapse of a bank. It's the Franco-Belgian lender Dexia. Now, while some analysts say its demise an exception, others say they hear a wake-up call. Eleanor Beardsley reports.

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UNIDENTIFIED WOMAN: (French spoken)

ELEANOR BEARDSLEY, BYLINE: The heart of the eurozone is now abuzz with news of the first banking casualty of its sovereign debt crisis. Franco-Belgian bank Dexia, a major lender to U.S. and European municipalities, is being dismantled and nationalized after collapsing under the weight of its Greek debt.

While Dexia Belgium acted as a retail bank and had depositors, Dexia's French arm lent only to cities, and that's where the problem started, says Jim Hertling with Bloomberg News in Paris.

JIM HERLING: The problem is it lends to municipalities. It lends to cities. It doesn't have a deposit base, and it relies on the markets for funding. And as the markets seized up, as borrowing costs went up because of the euro crises, it basically made it impossible for Dexia to finance its own business.

BEARDSLEY: Dexia was bailed out once already in 2008, when its huge portfolio of U.S. subprime loans turned bad. But after that, Dexia invested in indebted European southern economies, and its holdings include roughly 25 billion dollars of Greek government bonds. Now, because of that high proportion of Greek debt, no one wants to risk lending to it. The bank is being broken up. Its Belgian and French operations taken over by each government, Dexia's toxic assets - said to amount to nearly $250 billion - will be put into a so-called bad bank that will be guaranteed by the French and Belgian states. While some analysts say Dexia is a unique case that doesn't herald a wider banking crisis, Hertling says Dexia is symbolic of the threat to Europe's economy.

HERLING: Fear of the unknown. You can recapitalize the banks, but once you let Greece default, or once you demand a 40 or 50 or 60 percent write-off from investors, you just don't know what the consequences are. You don't know what the ripple effects are. And that's the big risk underlying all of this stuff.

BEARDSLEY: European bank shares have plunged recently on world markets because of the rapidly eroding value of their sovereign debt holdings. The IMF estimates that if the debt crisis worsens, Europe's banks may need up to $400 billion to guarantee their accounts. Philippe Dessertine, a professor at Paris's High Finance Institute, says Dexia is proof of the urgency to recapitalize European banks immediately.

PHILIPPE DESSERTINE: (Through translator) Dexia passed all the stress tests of July 2010 and 2011, and now it's so bad off, we have to make it disappear. This shows that despite all the talk about the safety and quality of European banks, they're fragile, and we're absolutely going to have to shore them up.

BEARDSLEY: Dessertine believes the collapse of Dexia is a signal that all of Europe is entering a new, hard-core phase of the debt crisis. Banks that can't raise funds on the open market will have to be funded by governments and taxpayers already under pressure from austerity measures. The leaders of the eurozone's largest economies, France and Germany, seem to have finally gotten that message.

CHANCELLOR ANGELA MERKEL: (German spoken)

PRESIDENT NICOLAS SARKOZY: (French spoken)

BEARDSLEY: Standing side by side after talks in Berlin over the weekend, German Chancellor Angela Merkel and French President Nicolas Sarkozy announced they had reached an agreement to recapitalize European banks. The couple promised a plan to get the credit flowing that would reboot economic growth before month's end.

For NPR News, I'm Eleanor Beardsley, in Paris.

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