Up until the end of September, for the most part, the rash of failures of financial services firms, emergency bailouts and shotgun marriages had all been confined to the U.S. But that all came to an end in the final week of September when the banking breakdowns spread to Europe with a vengeance, highlighting the need for global solutions to the current crisis.

Prior to that tumultuous week, most of the pain had been visited upon the U.S., where Wall Street’s independent investment-banking sector has essentially been wiped out. The largest U.S. mortgage lenders and one of the biggest insurers were also effectively taken over by the government. And the U.S. Treasury and legislators were forced to put together a controversial plan to shore up the financial system by buying illiquid mortgage-backed securities from banks in an effort to get the credit markets flowing again.

In the face of all of this turmoil, European governments and regulators seemed to be enjoying a relatively easy ride. There had been a couple of firms stumbling over the past year, but nothing on the scale of what has happened in the U.S.

That all came to an end by monthend, when a rash of emergency actions were suddenly needed to prop up failing financial services firms in Europe, too.

In a matter of just a few days, the Belgian/Dutch banking giant Fortis and Belgian/French financial services conglomerate Dexia both required capital injections. The British government took over another bank, Bradford & Bingley PLC, subsequently selling some of its assets to Spanish banking giant Banco Santander. The German firm Hypo Real Estate Holding AG was thrown a large credit line to keep it afloat. And the government of Iceland was forced to buy out one of that country’s big banks, Glitnir Bank.

Now that the pain of the financial market turmoil is being felt beyond Wall Street, the challenge of solving the crisis becomes a much trickier, global proposition.

Some market-watchers had believed it was only a matter of time before failures and ensuing emergency measures would occur in the European financial services sector. European banks certainly have their fair share of the now-toxic assets that have contributed to the downfall of large U.S. firms.

Additionally, many European firms have not been as well capitalized as U.S. firms that have failed. As the Centre for European Policy Studies observed a in mid-September report, it was somewhat surprising that these firms had yet to come under serious pressure: “Some of the major European banks have leverage [assets to equity] ratios (often over 30, in some cases close to 50) that must, under current market conditions, be considered a disaster in waiting.”

In addition to European banks’ homegrown troubles, those banks are being hurt by their exposure to high-profile U.S. failures such as Lehman Brothers Holdings Inc. and American International Group Inc. In the case of Dexia, analysts note, markets were also worried about its exposure through its U.S. monoline insurance subsidiary.

European banks are also proving subject to faltering confidence in the global financial system as the list of failures grows.

“Since the near-bankruptcy of British bank HBOS PLC, which was saved in an emergency rescue by Lloyds,” notes Paris-based Natixis Securities in a recent research report, “the European banking sector has remained under pressure.”

This crisis of confidence has been expressed in weak share prices and rapidly widening credit-default swap spreads (an indication of rising fear), which has in turn imperilled various firms’ ability to fund themselves.

Waltham, Mass.-based research firm Global Insight Inc. observes: “The outlook does not look positive for the European financial system. It has taken over a year for the difficulties first experienced by U.S. financial institutions to reach Europe, but they are now here with a vengeance.”

So far, Europe’s governments have taken an ad hoc approach, much like what the U.S. did before it finally decided a more systemic solution was necessary. The Global Insight report says that with the turmoil in Europe seemingly intensifying, the policy response has been “fragmented and marked by a lack of coherence.”

The only country that has taken any systemic action is Ireland, which moved to shore up its banking sector by issuing a two-year blanket guarantee of all bank deposits.

The government in Britain, according to the Global Insight report, is facing increasing pressure to follow Ireland’s approach and guarantee all bank deposits in Britain, too, while governments across continental Europe step in to shore up their faltering financial services firms.

@page_break@Indeed, European governments are quickly finding themselves becoming large shareholders in the region’s banks. The governments of Belgium, the Netherlands and Luxembourg jointly invested 11.2 billion euros in Fortis in exchange for a 49% ownership stake in the firm’s banking operations in each country. Additionally, Fortis must sell its stake in ABN AMRO.

That injection was followed by a 6.4-billion-euro capital injection for Dexia from the Belgian, French and Luxembourg governments and the bank’s institutional shareholders.

Germany joined a group of banks to provide a 35-billion-euro credit line to Hypo Real Estate. In exchange for the bailout, the firm’s assets will be sold off.

Iceland’s government finds itself 75% owner of Glitnir, in exchange for 600 million euros.

Britain’s Treasury now also owns part of Bradford & Bingley, after it took the firm into administration, and then sold its branches and deposits to Santander’s British subsidiary, Abbey National (which earlier bought out another failed British bank, Alliance & Leicester). The British government is left holding Bradford & Bingley’s loan book and treasury assets.

With these various efforts, UBS Ltd. says in a research report, it appears as though the global banking industry is moving closer to what UBS believes is necessary — the full recapitalization of the banking sector. The firm notes that the process of bank nationalization has already begun with these government bailouts. “This will probably be much more broad-based,” the UBS report says, “as governments seek to restore confidence in the financial system.”

Indeed, with the exception of Ireland, whose sweeping initiative appears to have shored up confidence in that country’s banking system, European financial markets remain fragile.

All of this has European governments now considering the need for systemic action, similar to the $700-billion asset repurchase plan that is being adopted by the U.S. Treasury. As Investment Executive went to press, the European Union was meeting to consider a co-ordinated plan.

But the problem is that getting governments in the region to agree on an approach may be even tougher than wrangling an agreement from the U.S. Congress — which was a mighty challenge.

According to the Natixis report, the French administration favours government action to recapitalize the banks, whereas Germany would rather seek more private-market solutions.

The Global Insight report agrees that it will probably prove difficult for the EU to reach a consensus on an approach. Moreover, even if it does, that may not be enough. “Given the integrated nature of global markets, a joint EU/U.S. response would be most appropriate” the report suggests. “However, at present, this seems highly unlikely.”

Indeed, the Institute of International Finance Inc., a banking industry lobby group, is calling on policy-makers to deliver “systemic, internationally coordinated responses” to stabilize financial markets, including helping banks to recapitalize.

The lobby group is also pressing for increased co-ordination of global regulatory reform, and for a new global co-ordinating body for financial regulators.

The immediate focus, however, is shoring up the financial system. And while the UBS report notes that this process is underway, it also expects it to be messy, because it requires significant co-ordination among European regulators and policy-makers — and that probably leaves banks under pressure for the foreseeable future.

“We may be getting closer to the end-game: either a global financial meltdown or full-scale government recapitalization,” the UBS report says. “History suggests the latter, although more bank failures may have to occur before that happens.

“Until then,” the report continues, “global banks are likely to come under continued selling pressure, given the downward spiral in market confidence and as solvency risk rises.” IE