And you thought that the financial crisis was contained. I’ve been harping on this for some time and now it appears to be closer to reality than many thought. The European banking system is dangerously close to being taken down by their version of subprime loans.

As the ultra-bear Ambrose Evans-Pritchard explains in the Telegraph.co.uk, the entire Eastern bloc possibly including Russia is perilously close to complete financial collapse and if that happens it will take the European banking system with it.

Stephen Jen, currency chief at Morgan Stanley, said Eastern Europe has borrowed $1.7 trillion abroad, much on short-term maturities. It must repay – or roll over – $400bn this year, equal to a third of the region’s GDP. Good luck. The credit window has slammed shut.

Not even Russia can easily cover the $500bn dollar debts of its oligarchs while oil remains near $33 a barrel. The budget is based on Urals crude at $95. Russia has bled 36pc of its foreign reserves since August defending the rouble.

“This is the largest run on a currency in history,” said Mr Jen.

In Poland, 60pc of mortgages are in Swiss francs. The zloty has just halved against the franc. Hungary, the Balkans, the Baltics, and Ukraine are all suffering variants of this story. As an act of collective folly – by lenders and borrowers – it matches America’s sub-prime debacle. There is a crucial difference, however. European banks are on the hook for both. US banks are not.

Almost all East bloc debts are owed to West Europe, especially Austrian, Swedish, Greek, Italian, and Belgian banks. En plus, Europeans account for an astonishing 74pc of the entire $4.9 trillion portfolio of loans to emerging markets.

They are five times more exposed to this latest bust than American or Japanese banks, and they are 50pc more leveraged (IMF data).

There is simply no way that European banks can handle any significant default on their loans to Eastern Europe. They have been deeply wounded by the first phase of the unwind – the subprime and related problem credits that U.S. banks are dealing with. They don’t have the capacity to absorb the losses implied by the crisis now facing them. On top of this, in many cases they have let their banks grow to monstrous sizes relative to their economies and lack the capacity of the U.S. to recapitalize them if presented with that situation.

The problems are compounded by the construct of the European Union. Lacking a central authority to issue debt it has no means of providing the liquidity needed to battle the growing firestorm. Indeed, the limits under which it operates may soon threaten its very viability as the growing problems in Eastern Europe further damage the weaker members of the Union. Despite discussions relative to amending the Masterich Treaty to allow the issuance of bonds, there is no commitment among the stronger members to do so.

Europe is already in deeper trouble than the ECB or EU leaders ever expected. Germany contracted at an annual rate of 8.4pc in the fourth quarter.

If Deutsche Bank is correct, the economy will have shrunk by nearly 9pc before the end of this year. This is the sort of level that stokes popular revolt.

The implications are obvious. Berlin is not going to rescue Ireland, Spain, Greece and Portugal as the collapse of their credit bubbles leads to rising defaults, or rescue Italy by accepting plans for EU “union bonds” should the debt markets take fright at the rocketing trajectory of Italy’s public debt (hitting 112pc of GDP next year, just revised up from 101pc – big change), or rescue Austria from its Habsburg adventurism.

So at a time when it is crucial for a few things to go right, everything appears to be going wrong. Europe is facing a crisis that might in the end make that faced by our country seem relatively moderate. The EU is without either the political or legally permissable means to deal with the growing crisis among its members and its banks and seems unlikely to be able to deal with that conundrum.

If the dominoes in Eastern Europe and for that matter within the EU start to fall in rapid succession it may very well make the failure of Lehman look like child’s play. There has never been a doubt that the U.S. has the financial wherewithal to deal with its own problems. Whether or not it has the will or the means to rescue the world is another matter indeed. Increasingly it looks like that proposition might be tested.

more: Evans-Pritchard’s article here.