Here at PIIGSty.com – the issue of the inadequacy of the EFSF has been long discussed, an issue which has recently reared its ugly head again at meetings of the IMF and G20. We decided to sit back and wait for the hysteria to die down in recent weeks and for clarity to replace hyperbole. Since September 20th, we have learned some key things about the eurozone (EZ) crisis. Heres a run down of some activity in the key players.
Chancellor Angela Merkel has been triumphantly congratulated on her overwhelming Bundestag vote to expand the borrowing capabilities of the EFSF (as agreed in the July 21 meeting) and rightly so. The vote also succeeded in stablising her CDU-FDP coalition with a combined 315 votes FOR and only 13 AGAINST) despite huge misgivings, meaning the crossover opposition support from the Social Democrats and Greens wasn’t as critical as some commentators had expected. Of course, the market pleasing 523–85 vote victory is bittersweet. First, the good news. The good ship Europe was steadied temporarily and the media outlets ignored the Greek crisis for at least a day. The bad news. That same ship is essentially still hurtling toward the same reef, likely to founder eventually on those sharp (and self chiseled) Athenian rocks. The cannons can sink some foes along the way but the course is set if the wheel isn’t turned.
Why not turn the wheel? Europe is still playing catch up and continues to woefully and frantically follow events rather than lead them. The ‘Merkel wins’ narrative was always going to change. A €440bn EFSF is inadequate and the return to market turmoil in October confirms that. The fact that even a simple enlargement of the fund (which was more procedural than a sign of proactive EZ economic governance) has shown that any future necessary financing of bailouts or bank recapitalisations are just not on. The EZ’s effectiveness to deal with this crisis has now been formally politically neutered.
Germany will ultimately (after all EZ parliaments pass the EFSF reforms) be responsible for nearly 50% of the EFSF fund, around €210bn. The likelihood the ‘Merkel-Schaeuble (her Finance minister)’ doctrine of ‘no more bailout money’ will change beyond that is just implausible and politically suicidal.
Greece remains the problem child of Europe. Fostered under a European monetary system it never ascribed to wholeheartedly (since the Greeks were never too fond of following the rules of EMU) the Greek-fueled EZ debt crisis remains poised to cause a financial earthquake, especially if its spreads. To say this is only because of the petulance of some myopic Greek politicians isn’t fair but consensual decision making in Athens is proving elusive. Opposition parties are steering clear of the austerity and privatization plans, even objecting openly to the proposed cull of 30,000 public sector workers, despite the costly historical burden this sector represents – currently 45% of the entire Greek economy.
Next big date for your diaries? October 13th, 2011. On this date, the decision on the next €8bn tranche of Greek EU-IMF funds will come up – decisions which have been deliberate cliffhangers in recent months. Why? Simply put, its down to the weak Greek government’s commitment to its austerity program and EU-IMF bailout commitments generally. If the EU-IMF/EFSF funds aren’t forthcoming, Greece will no doubt default , the EZ will be forever undermined and then…noone really knows what happens then. If the money does flow (as expected, because ‘noone knows’ isn’t a road well traveled) without the EZ-17 (read Germany) being satisfied that Greek economic restructuring (and austerity) is proceeding smoothly and the government is acting in good faith, it will create a far greater politically poisonous atmosphere between the EU and Greece, raising the spectre of the Greeks being ejected from Europe (although this is currently impossible).
The Greek economy is in perilous shape. For 2011, the projected budget deficit looks set to hit 8.5% of GDP (way above the 3% limit for a euro-user and breaching the EU-IMF target of 7.5%). It also looks set to under-perform in 2012 when that years budget is hoped to conjure up a €3.2bn surplus from a deficit of over €24bn in 2009 (optimistic?). Greek national indebtedness (its GDP: Debt ratio) is expected to rise above 170% from an projected 160% in 2011. Meanwhile, yields on 10 year Greek bonds (cost of Greek borrowing to fund itself) remains the highest in the world at 23.1% signalling a rocky road ahead to ween itself off the European bailout drip-feed.
Around the 14th October, the sole remaining awkward vote on the EFSF will take place in Slovakia (Dutch and Maltese MPs remain to vote but those are rubber stamping affairs). The Slovak problem is centred around the political weakness of the four party coalition government (and strength of the parliamentary speaker). PM Iveta Radicova is likely to struggle to find support and may need opposition help, which even in a best case scenario will weaken the fragile government further. It must be said, a meeting of EZ finance ministers on 3rd October has stabilised the situation somewhat, and officials at EU level are confident of a positive result.
The line ‘Ireland saves the eurozone’ is not likely to feature as a banner headline too soon but in many ways it might prove prophetic. As 2011 progresses, a combination of sharp fiscal austerity (administered in 2010) and an export boom has illustrated that austerity and growth are not necessarily uneasy bedfellows during this EZ debt crisis (despite what Paul Krugman and liberal economists might suggest). Of course, it does follow that austerity (by definition – pulling money out of the economy) and growth (the positive change in output) are opposing forces – but this crisis can’t be put down to supply side problems only. That is a symptom of the disease of financial/debt contagion. This crisis is one of credibility and investor confidence. Ireland, with deflation of 9-10% in 2009-2010 and the ‘Croke Park’ deal freezing public sector wages, has made itself more competitive through stability and assuring markets of its structural economic integrity. Still, Ireland represents a vindication of sorts of Europe’s approach to this crisis and strengthens the EC-IMF hand in dealing with Greece (in theory). Expect Ireland to be further held up internationally as an example to others.
The United States
The US Treasury Secretary Tim Geithner appears to have failed in his recent mission to convince EZ leaders of the urgency to the world economy for European political leadership. His suggestion to grow the EFSF via leveraging (issuing credit backed by a pot of funds) would certainly grow the fund but would also grow the risk exposure to the 6 financially stable AAA-rated EZ members. This would allow the EFSF to become a ‘good bank’ (rather than pump money into/recapitalise unattractive debt ridden ones). Of course, a €440bn EFSF ‘bank’ could then access ECB funding and use the base (after all agree around the 18th October) and lend. Of course this then puts a lot of money, from ALL of the EZ at risk potentially making a sovereign debt crisis in Greece and (granted, less alarmingly lately) in the rest of the PIIGS a more European problem than it currently superficially is.
Critics suggest that this is merely window dressing. The EFSF funds cannot stretch to cure all ills, both current and potential. We can’t cure patent zero, stop the outbreak and cure the disease ALL at once – the resources aren’t available. Europe must make a choice and some argue that to avoid giving insolvent banks a lifejacket based on ‘Too Big To Fail’ is ridiculous and inefficient. Better to pump money into solvent banks with liquidity problems (lacking access to funds to readily lend out).
In Summary, the ideas for the EFSF…
- Make it bigger by getting EZ members to give more money (optimal size estimates are €1.5-€2tn) (The Markets Proposal)
- Turn the EFSF into a ‘good bank’ allowing it use the €440bn as a capital base to lend out multiples of that amount (like a traditional commercial bank). This would basically be supported by the credit rating of its 6 AAA rated backers (The US Proposal)
- Use funds to guarantee Spanish/Italian bonds up to 20% of their value, trying to keep their cost down below the percentage a nation would be forced to abandon the normal bond markets for debt and look toward an EU-IMF bailout (i.e. a stop the bleeding exercise).
- Allowing the EFSF borrow from the ECB to buy Spanish/Italian (and other PIIGS) bonds in secondary markets – as agreed at the July 21 EU meeting (Incoming ECB President Mario Draghi favours this
The debate rumbles on.
The next EU summit is scheduled for 17-18th October
Why does all this seem ominous? We are still taking about the component parts of the EU- each member state – not ‘Europe’ as a whole or as Derek Scally writes in the Irish Times, quoting German Social Democrat MP Peer Steinbruck “…we have reduced Europe to an intergovernmental event of 26 men and one woman.” National fences are starting to rise again, with all the mutual suspicion and acrimony that that entails.
But hey, Christmas is around the corner…