European Banks Face Dollar Liquidity Risk Amid Geopolitical Tensions

The European Banking Authority (EBA) has sounded a subtle but significant alarm: 60 out of 267 European banks with sizeable US dollar (USD) exposures do not have sufficient dollar funding to cover their liabilities, exposing a critical vulnerability in the EU’s financial architecture.

While the average Net Stable Funding Ratio (NSFR) across EU/EEA institutions sits comfortably at 127.3%, a currency-level mismatch reveals a more fragile undercurrent. The NSFR, a Basel III liquidity metric designed to ensure banks maintain sufficient long-term funding, is not currently required to meet thresholds on a per-currency basis under Pillar 1. This loophole leaves space for structural FX mismatches, especially in key foreign currencies like USD.

According to the EBA’s April 2025 report:

• 21% of EEA bank funding comes from foreign currencies.

• 30% of their exposures are in foreign currencies — with USD the most significant.

• USD shortfall affects 60 banks, while GBP mismatches impact 25 banks.

• Unsecured wholesale funding makes up 67% of foreign currency funding.

This implies that a non-negligible segment of the EU banking system is financing long USD exposures with unstable or non-USD liabilities, making them vulnerable to market dislocation, particularly in times of rising geopolitical friction or stress in cross-currency swap markets.

A Shift in Transatlantic Financial Power

In parallel, US banks are quietly extending their footprint in the European market:

• They now command 28% of the EU derivatives market, a core component of institutional financial activity.

• Their share of total EU banking assets has risen from 4.0% (June 2021) to 4.6% (Dec 2023).

• In contrast, UK-based banks’ share has slipped to 4.2%, down from 5.7%, as Brexit's regulatory friction disincentivises deeper EU penetration.

Even more striking: US banks account for 77% of all commodities financing fees within the EU—a sector critical to energy security and trade finance.

The increasing dependence on non-EU entities for capital markets infrastructure and USD liquidity raises real questions about the EU’s strategic financial autonomy. While EBA officials downplay systemic risk in the name of open markets, the reality is stark: when stress emerges in FX or dollar markets, EU institutions may be caught short, especially if USD swap lines from the Fed to the ECB are politically constrained.

MY TAKE: A Strategic Misalignment and a Missed Opportunity

In my view, this report is not just a liquidity red flag—it highlights a broader strategic misalignment. The EU cannot credibly pursue “strategic autonomy” while maintaining a structural dependency on USD funding and US market infrastructure.

Three key implications for financial professionals and policymakers:

1. Urgent need for funding diversification: EU banks must rebalance funding strategies, particularly by developing stronger local currency financing channels for dollar-based exposures—or investing in long-dated cross-currency swaps or natural hedges.

2. Capital markets union acceleration: The EU must fast-track integration of its fragmented capital markets. A deep, unified EU-wide bond and securitisation market would provide stronger domestic liquidity, reduce reliance on USD and bolster internal resilience.

3. Sovereignty in derivatives clearing and commodities financing: With the majority of these markets controlled by US-headquartered institutions, the EU risks exposure to extraterritorial regulatory reach, particularly under volatile political regimes. Targeted incentives for European banks to scale their derivatives desks and commodities financing capabilities could start to reverse this trend.

Conclusion

The EBA’s findings illuminate a critical fragility in European banking—one rooted not in capital ratios or NPLs, but in foreign currency funding mismatches and market reliance on non-EU players. As global power becomes increasingly transactional, dollar liquidity may no longer be the reliable backstop it once was.

European banks—and their supervisors—must act now to correct this strategic imbalance. The next shock may not give them a second chance.