Monday, March 12, 2012

The Grinding Euro Crisis

There are two 'Bill and Ted' movies, and I forget which one contains this scene. For some reason, Bill and Ted are being sent to hell, and they are both falling into endless darkness. At the start of the scene, they are both screaming with fear. However, as they just continue falling and falling, they pause their screaming, start again, then stop.

This scene made me think of the European economic crisis. Bill and Ted (correctly) suspect that they will eventually hit the bottom, but they can only scream for so long. It is becoming like this with the crisis in the EU. In particular, we have the latest stage in the relentless fall of the Greek economy. Perhaps one of the most absurd elements of the Greek default was all of the technical gobbledygook about whether the default was in fact a default. As it is, there is still no end in sight for the problems of the Greek economy:

Greece implemented the biggest debt writedown in history on Monday, swapping the bulk of its privately-held bonds with new ones worth less than half their original value.

Although the exchange will keep Greece solvent and at the receiving end of billions in international rescue loans, markets were underwhelmed amid fears that the country's debt load still remains far too heavy.
A Finance Ministry statement said bonds issued under Greek law with a total face value of €177.2 billion ($232.5 billion) were exchanged. A smaller batch worth €28.5 billion, issued under foreign law or by state enterprises, will be swapped in coming weeks.

The debt exchange opens the way for Greece's second international bailout, expected to be finalized this week by finance ministers from eurozone nations. It will also transfer the majority of the country's debt from private into public ownership — its eurozone partners and the International Monetary Fund.
It is tempting to quote the many other commentaries which assume that this is not even the beginning of the end of the troubles of Greece. However, the real impact of the default is greater than the ongoing problems of Greece. It strains the credibility of the EU as a whole; all of the emergency summits and action plans have simply not worked. Also, the default has established that private bond holders of EU sovereign debt are now relegated to a junior status, meaning that the risks for the private bond holders are now increased. In the meantime, the ongoing bailouts of banks by the European Central Bank marches relentlessly onwards:

The European Central Bank’s balance sheet surged to a record 3.02 trillion euros ($3.96 trillion) last week, 31 percent bigger than the German economy, after a second tranche of three-year loans.

Lending to euro-area banks jumped 310.7 billion euros to 1.13 trillion euros in the week ended March 2, the Frankfurt- based ECB said in a statement today. The balance sheet gained 330.6 billion euros in the week. It is now more than a third bigger than the U.S. Federal Reserve’s $2.9 trillion and eclipses the 2.3 trillion-euro gross domestic product of Germany (EUANDE), the world’s fourth largest economy.
And the assets being pledged to the ECB have been steadily declining in quality. As you would expect, this massive expansion of the balance sheet has not been without criticism.

Jurgen Stark, the ECB's former chief economist and Germany's board member until two months ago, said the blitz of lending had corrupted collateral standards and risked inflation.

"The balance sheet of the euro system isn't just gigantic in size but also shocking in quality," he said.
Unlimited lending to banks for three years has pushed the ECB's balance sheet to over €3 trillion (£2.5 trillion), overtaking the US Federal Reserve to become the world's most activist bank.
The attack come days after Bundesbank chief Jens Weidmann complained that the ECB's payments system known as Target2 had caused the Bundesbank to build up €547bn of claims on the rest of the system, mostly from the central banks of Greece, Ireland, Italy, and France. He demanded measures to protect German interests.
You may want to see an interview with Jurgen Stark (later in the interview), in which he again expresses concern at the ECB's activity, in particular the purchasing of government bonds 'in certain countries' which he argues postponed the reform in the economies. He is clearly against the principal of central banks financing government deficits, and states this very clearly.

The most interesting thing about the current situation in Europe is that the ECB is throwing ever larger amounts of money into the system, but the crisis continues to grind on. It is, in other words, not working. The alternative approach is to reverse austerity. If you look at the Stark interview, the presenter puts the argument more clearly than many. Austerity reduces the size of the tax base.

It is a wonderful Alice in Wonderland logic. If we stop borrowing and spending, people will have less income and will therefore give less tax. Therefore we should borrow x billion Euros to spend on consumption, and this will then generate more tax revenue which will give confidence that we have the income to pay our debts. So what we will do is borrow more money for consumption in order to use the small percentage of that money to us that is returned in taxation to pay for our existing borrowing whilst increasing our overall absolute borrowing.......Makes sense, does it not?

Note: Sorry for the lack of posting. I have been very, very busy, but will try to find a bit more time. There are many developments in the world economy that deserve comment, for example the further steps towards making the RMB a reserve currency, the 'faux' US recovery, and a host of other interesting points.


  1. I particularly look forward to your thoughts on the 'faux' US recovery. Thanks for another thought provoking read.

  2. And I look forward to hearing about the RMB moving more towards becoming a reserve currency.


You are more than welcome to comment on the posts, but please try to stay on topic....I will publish all comments, excepting spam and bad language, and my moderation of the comments is just to exclude these.

Please allow up to two days for the comment to appear.

I have had a request for an email address for the site and have created the following:


I have ommitted the @ symbol to avoid spam....

For general purposes I would suggest using the comment form, but will occasionally look at this email account. Please be clear what is for publication and what is not, though I will also not guarantee publishing of email comments, unlike the comments through the form! Thanks.