GERMANS BEARING GIFTS…AGAIN

10/28/11

The problems with the “big plan” to put to rest fears of a European financial collapse are myriad, and I feel to compelled to list at least few before I get to the meat of this post:.

--The plan to expand the EFSF (which does not stand for European Fops Still Fiddling, but, rather, the European Financial Stability Facility) does not expand the EFSF at all. Instead, it effectively levers the EFSF through extending guarantees on 20% of certain debts of troubled Eurogovernments and/or taking the first losses on a larger Special Purpose Vehicle (“SPV”) to be funded by the usual suspects: the sovereign wealth funds and/or other public or quasi-public institutions of China, Brazil, India, Japan, and other countries where people still engage in the quaint practice of saving money.

Hmm….

Isn’t it leverage that got the Europeans, and us, into so much trouble in the first place? Further, a 20% guarantee doesn’t go far in the event of a sovereign default; such “credit events” are all-or-nothing, usually all, proposition. And the EFSF will be fighting with the creditors it supposedly will be saving for the remaining collateral when it attempts to collect from the sovereign defaulters the spondulicks it extended to those same rescuees. Finally, the participants in the SPV have not agreed to anything yet, and, if they do, one has to assume that their motivation, in the cases of at least some of the participants, would be at least as political as it would be financial. Is Europe selling itself into serfdom?

Other than the above, the “expansion” of the EFSF sounds like just a terrific plan.

--There appears to be nothing voluntary about the “voluntary” 50% haircut Greek creditors are expected to take. That would be fine, since those who make bad loans should suffer the consequences; however, calling such haircuts “voluntary” forecloses the holders of credit default swaps (“CDS”s) from collecting on those swaps and thus spares the writers of such insurance from having to pay up on the bad bets they made on the solvency of Greece. (See, inter alia, my 6/8/11 piece, A TRAGEDY WORTHY OF AESCHYLUS.) This throws into question the whole concept of a CDS and the viability of the entire CDS market, certainly for sovereign bonds and maybe for any bonds. A severely impaired CDS market will make it harder for sovereigns, or perhaps for anybody, to borrow money.

Further, the 50% haircut will bring Greece’s debt to GDP ratio to 120% by 2020 (2020!), which is better than the 163% that it would have reached had nothing been done. This is mostly because 40% of Greek debt is held by public and quasi-public institutions, which will be taking no haircut, but partially because Greece has to borrow 30 billion euros from the EFSF to finance guarantees of the new bonds issued to those who “agree” to take the 50% haircut, which seems curiously circular. At any rate, Greece probably cannot sustain debt levels of 120% of GDP, and won’t even get there for eight years or so. Another default thus looms.

--The proposed recapitalization of the Eurobanks is turning out to be a non-event. A 9% Tier 1 capital ratio, at least as interpreted by this deal, will require most of the banks to perhaps reduce a few dividends (or maybe just postpone a few dividend increases), cut a few bonuses (perhaps the point of the exercise), and adjust a few bad loans provisions. Will this be enough? One supposes so if the Eurogovernments and Eurocrats insist on riding to the rescue every time these financial Olympians make another of their series of boneheaded decisions.


Nothing I have said so far is new; you’ve probably read of the above deficiencies of the plan. What caught my eye, however, were two quotes from two Euroestimables that perfectly sum up the problem with the “grand plan.” The first is from Greek Prime Minister George Papandreou:

“Tens of billions of euros have been lifted from the backs of the Greek people. The banks, rather than the citizens, will pay that cost. It is a more just distribution of the burden of our debt.”

Is it just me, or is Mr. Papandreou gloating over the perception that he has just pulled something over on everyone, that he has made his creditors suffer (justifiably; you will find no arguments from yours truly over making people pay for their mistakes, but it seems like in this deal the Eurotaxpayers, rather than the banks, will ultimately pick up much of the tab), and done so as a matter of some skewed perception of economic justice? The implied message is that the party is not over; Greece can continue to party on someone else’s dime, as it has since the founding of the modern Greek state after World War I.

The second quote comes from Bundesbank president Bundesbank President Jens Weidman:

“There can’t be any impression that the haircut or public aid from partner countries is a comfortable way out of self-inflicted problems.”

The problem is not so much that these two estimables are saying two different things. The problem is that Mr. Papandreou is correct; the Greeks have escaped a bullet courtesy of the German, Finnish, Czech, French, etc. taxpayers. Mr. Weidman, who is no fool, is lying to himself. This bailout, even if it works, is indeed a comfortable way out of self-inflicted problems. So it follows, as does the night the day, that we will witness more self-inflicted problems, and not only in Greece.