Are we heading for another credit crunch?

With the markets continuing to be jittery about goings-on in the eurozone, the Financial Times has made an interesting – if worrying – discovery. The paper looked at all the fine print at the bottom of banks’ third-quarter results, and discovered that the UK’s ‘big four’ banks have reduced their inter-bank lending by almost a quarter, to just £10.5bn in the three months to the end of September. Not surprisingly, most of that drop in lending has been to banks in ‘at-risk’ economies like Greece, Spain and Italy. Which is good, as far as depositors are concerned. But it could mean we’re heading for another credit crunch.

The findings are made more complicated by the fact that banks’ decisions to limit their exposure to dodgy economies by selling off sovereign bonds for Greece et al has been welcomed. But interbank lending is another story altogether: without it, banks’ ability to lend to customers would be seriously hindered. That, in turn, would put us back into exactly the same situation we were in in late-2008 – which we have yet to recover from. So any hint of a reduction in interbank lending should put the willies up investors.

HSBC is one of the worst culprits, with a 40% drop in interbank loans to debt-addled economies (it didn’t lend anything to Greek banks, and it cut loans to Spain and Ireland by two-thirds). But British banks aren’t the only ones doing it: banks all over Europe are increasingly choosing to deposit any excess funds with central banks instead. The worry is that, were the debt crisis to get much worse, banks couldn’t take the strain of existing loan commitments, let alone new ones. After all, Europe’s banks have about $700bn worth of debt scheduled to mature over the next nine months.

The good news, of course, is that we’re not quite as dependent on credit as we were back in 2008. And this time, banks are more prepared: rather sweetly, one of the ways banks are geeing themselves up for an (increasingly likely-looking) credit crunch is through ‘war games’, which involve taking a potential crisis situation (such as Greece leaving the euro) and working out what would happen to the business. A lot less fun than they sound, admittedly – but forewarned is, as they say, forearmed.

For now, though, banks are dependent on European governments to sort things out. Although it probably doesn’t give them an enormous amount of confidence that all new European Central Bank president Mario Draghi can do at the moment is add his voice to the cacophony of calls for ‘urgent action’ on implementing a new European bailout fund. Tell us something we don’t know. Markets are, not surprisingly, becoming disenchanted: European markets dropped by between 0.5% and 1.2% this morning. Time to see actions, rather than words, wethinks.