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EU firms hit harder by regs than US

Thursday 29 September 2011 - by Andrew Hickley

Regulatory initiatives such as Basel III will hit European businesses much harder than their US counterparts, Standard & Poor's has warned.

Once new banking and insurance regulations are fully implemented by 2018, borrowing costs in the eurozone will surge by between €30bn-€50bn ($21.9bn-$36.6bn) per year, according to a report from the rating agency.

Meanwhile, US firms will be hit by an increase of between $9bn-$14bn (€6.5bn-€10.3bn) per year with new banking requirements constraining lending, said S&P on Thursday.

European corporates will feel the effect more harshly than their US rivals because they typically rely heavily on banks for funding relative to capital market sources, the report says.

S&P finds that corporate securities make up almost 80 per cent of funding in US corporations; these sources provide only 30 per cent of the backing for EU and UK firms.

The report anticipates that banks across the world will raise the cost of lending in order to maintain high returns on equity.

Basel III's capital and liquidity requirements will see banks having to borrow costs on their investment grade loans by around 0.7 per cent to maintain a 15 per cent return on equity, it says.

Meanwhile it calculates that the issuance of speculative grade loans will see banks increasing interest rates by 1.64 per cent to keep to these high returns, as they grapple with additional risk weights they must hold against these loans.

Both Solvency II and Basel III rules will also raise the incentives for banks' to issue shorter-term loans, as they will have to hold less capital against these than they will for long-term transactions, it says.

S&P adds that the regulations will make lenders less likely to lend to any market segments they perceive as too risky.

"We believe that corporates will increasingly turn to the capital markets as bank financing becomes more reflective of risk and terms and conditions more restrictive," the report's author, S&P chief credit officer Blaise Ganguin said.

"Nevertheless, we believe that in the near term some of the less diversified, highly leveraged corporate entities, or those firms that simply did not want to contend with public disclosure requirements in Europe, could find themselves scrambling for cash."

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2011-09-29 12:41:08 | Wayne Abernathy
This is simple math. Raising capital requirements forces banks to hold more resources on the shelf in order to do the same amount of business. That is contractionary, and it permamently lowers the growth curve of the economy. It hits Europe relatively harder than the U.S. because banks have a larger lending share in Europe than they have in the U.S. American regulators have a head start on European ones in driving banks out of the lendin business and stimulating the non-bank sector. Little to be proud of in the Land of the Free.