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European banks get $639 billion in loans; New 3-year deals come as default fears rise

Struggling banks snapped up $639 billion in cheap loans from the European Central Bank on Wednesday, a sign of just how hard or expensive it has become to borrow from each other.

The huge demand for newly available three-year loans comes as fears rise that heavily indebted European governments could default and force banks and other bond holders to take big losses.

The loans to 523 banks surpassed the $578 billion in one-year loans extended in June 2009, when the global financial system was reeling from the collapse of the U.S. investment bank Lehman Brothers. It was the biggest ECB infusion of credit into the system in the 13-year history of the euro.

The ECB wants banks to use the money to help pay off or refinance some $300 billion in existing loans early in 2012. Without the special support from the ECB, banks would have had to cut back on loans to businesses and further squeeze the European economy.

While the loans will help stabilize banks and make it easier for them to lend to businesses, they do not attack the root of Europe's financial crisis -- heavily indebted governments face unsustainable borrowing costs. Many economists believe that to solve that problem the ECB needs to become the lender of last resort to European governments, buying up their bonds in large quantities in order to lower their borrowing costs. ECB President Mario Draghi has said governments should not depend on a central bank bailout.

"The good news is, the ECB's efforts to increase liquidity are working," said Jennifer Lee, an analyst at BMO Capital Markets. "The bad news is, high demand for the loans creates worries that banks are urgently in need of funds to boost liquidity."

Many economists think that the eurozone is heading toward at least a mild recession. Data released Wednesday showed that Italy, the eurozone's third-largest economy, contracted 0.2 percent in the third quarter.

The deeper the economic slowdown is in the eurozone, the more tax revenues may suffer.

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