By Philippe Herlin – Researcher in finance / Contributor to Goldbroker.com       Along with its public deficits going the wrong way, as we wrote about last week, France has now to contend with its banking sector. According to Euromoney, a study from the Center for Risk Management de Lausanne shows that french banks represent the most important systemic risk of Europe!

In order to evaluate this systemic risk, the Lausanne institute measured the amount of capital a bank would need if a global financial crisis were to occur, such a crisis being defined by a 40% fall of major stock indices within six months.  Credit Agricole SA (EPA:ACA) comes in first, needing 86 billion euros, followed by Deutsche Bank AG (NYSE:DB) (ETR:DBK) (82 billion),Barclays PLC (NYSE:BCS) (LON:BARC) (71 billion), and BNP Paribas (BIT:BNP) (EPA:BNP) (OTCMKTS:BNPQY) (68 billion). Societe Generale SA (EPA:GLE) comes in sixth, Natixis 13th and AXA Insurance 14th. And, although  Dexia is considered a belgian bank, France guarantees 45.5% of its assets. All in all, french banks would need up to 217 billion euros in such a situation! They are followed by the United Kingdom (206 billion), Germany (135 billion) and Italy (90 billion).

This worrisome first place is notably explained by the amount of leverage in France, the highest in Europe, according to the Lausanne Center for Risk Management, at a rate of 31 to one (31 euros of liabilities for every euro in cash)… The Netherlands are next (29), then Italy (27) and Germany (25). The best ones are the United Kingdom (16), Switzerland (14) and Sweden (10).

This high systemic risk can also be explained by the high concentration in the banking sector. Indeed, three banks share most of the activity :  Credit Agricole SA (EPA:ACA) (which bought back Crédit Lyonnais in 2002), BNP Paribas (BIT:BNP) (EPA:BNP) (OTCMKTS:BNPQY) (born from the fusion of BNP and Paribas in 2000, and which bought back Fortis in 2009), and Société Générale. This concentration makes for a fragile structure. Let’s remind in passing that BNP Paribas’ total balance sheet equals that of France’s GDP. So we’re stuck with three giant creatures that the State will have to help come what may… The french banks have properly understood the theory and applied the « too big to fail » concept!

That being said, all european banks are fragile and, even though the french banks top the list, the other countries’ are at risk as well. Also, the fact that the banks’ balance sheets are so dependant on the stock markets reflects a breaking-up of the financial sector, a movement of French banks toward market financing (with better returns and higher risk), at odds with their traditional activities of credit lending (with lower returns but more stable).

Above all, the study’s hypothesis (a 40% stock market fall within six months) is far from improbable, quite the contrary. With the printing presses going full steam in the United States, in Japan and, to a lesser extent, in Europe, everyone understands that the stock indices are on an artificial high. The question isn’t even knowing if such a fall can happen, but when. At that moment, systemic risk will no more be an object of study and it will be very real.

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