The unlovely faces of impending disaster

Chancellor Merkel and Finance Minister Schäuble

If like me you find it hard to keep up with, let alone understand, the spate of explanations coming at us from all directions on the complexities of the looming financial crisis, you could do no better than read this article in Der Spiegel.  Never mind past mistakes, they tell us, the biggest mistakes are yet to come and the two people most responsible for them are the pair above:

They want to establish the unity of the continent -- but are nurturing fear and anger in donor and recipient countries alike. They want to sustain the homogenous single currency area -- but are doing everything possible to deepen the divide in the euro zone. They want to safeguard Germany's competitive edge -- but are undermining its future financial viability with unimaginable burdens.

Actually, like so many apparently complex matters when you strip them down to their bare essentials thay are relatively simple.  The current imbroglio is due entirely to an excess of borrowing - by governments, by banks and by individuals - and that means you.  Of course, it goes without saying that the lenders are also responsible for their totally irresponsible lending!  But now, even they are getting the message and one by one they are picking off those who have borrowed or loaned too much.  By refusing to lend to the weakest, like Greece, they punish not only Greece but the previous lenders to Greece, the banks.  Greece will be forced into bankruptcy but so too will many of the banks.  There is no possibility of a "with one leap he was free" scenario, someone, somewhere, will absolutely and definitely have to suffer.  So the question remains as to which is the best way to take our punishment.  Der Spiegel maintains that it is definitely not the way of Chancellor Merkel and Finance Minister Schäuble:

The first mistake begins with the terminology. The talk is and always has been of a "euro crisis." The chancellor has even made the nonsensical claim that "if the euro fails, Europe fails." It is actually possible to talk a currency into crisis and ruin.

Where, pray tell, is this supposed euro crisis? It seems that many politicians, journalists and researchers no longer distinguish between federal budgets and the money supply through issuing banks. What we are seeing is a crushing sovereign debt crisis [my emphasis], not a currency crisis. The intrinsic value of the euro -- despite the talk about the dangers of massive inflation -- is as stable as that of many other currencies.

And in one killer sentence they thrust a dagger into the reputations of recent governments - including ours:

In this debt world, finance ministers were celebrated when the new debt they took on was less than the previous year. That the total debt would continue to rise was, and is, self-evident.

Does 'little Georgie' in the Treasury, the chancellor who far from cutting anything in the last 18 months has actually borrowed even more, understand this?  Do you understand this, because these profligate wretches borrow and spend, they always call it "investment", because you applaud them, and then you reward them with your votes!

The second mistake is an example of attempting to douse a fire with a bucket of petrol:

Those countries which still enjoy good ratings think they need to rescue those with bad credit through fresh lending. They are thus violating the founding treaty of the euro zone, which excludes such aid.

So-called stability facilities are being contrived to communitarize the new debt. Then the European Central Bank jumps in. Likewise, in gross contract violations, it buys government bonds and in doing so damages its most important asset --credibility.

The third mistake is the willful obstinacy of Merkel and others to accept the only, but painful, solution - a 'debt haircut':

The solution is a so-called debt haircut, or in the words of the much maligned Rösler , an "orderly bankruptcy." The creditors who have frivolously given Greece or other states credit up to the point of an actual declaration of bankruptcy would lose so much money that the remaining losses for the debtor country would actually be manageable.

Experts estimate that this debt haircut would need to involve between 30 and 50 percent of debt, depending on the country. The second rescue plan for Greece from the summer provides a waiver of only 20 percent, but it is voluntary and so far only 75 percent of financial institutions have agreed to it.

There appears not to be too much doubt that several European banks would immediately go on the wrack but, as the author of this article points out, supporting a bank crisis would be infinitely cheaper than never-ending support for other nations:

A haircut which mirrors the debtor's real ability to meet financial obligations could, of course, leave some banks in trouble and threaten a new banking crash. But this problem could be easier to control than one outrageously expensive bailout after another. Above all, this solution would be cheaper for the countries; indeed, the burden would be borne by the lenders.

Banks which, thanks to the stress test, are known to be in a precarious position, would have to be weatherproofed before the debt haircut with fresh capital. This "recapitalization" must take place through the state because private investors would certainly not rush to take on such a risk. In return, governments would be shareholders in the banks.

There is a fourth mistake to which Der Spiegel doe not refer but I would bet the deeds of the house that our government will seize it with relief, and that is to print more money.  As palliatives always do, it will provide very short-term relief, but the ensuing problem, like a malignant growth, will be even greater and more painful because the result will be inflation which, put simply, is a way by which governments can rob you by gradually making your money worth less and less.  However, it usually takes a while for it to begin to  hurt, by which time, of course, the crooks and cowards who were too frit to take the hard decisions will long since of disappeared.

All of this is, of course, the nitty-gritty of our current, day-to-day crisis but there are, I think very much deeper and more fundamental forces at work beneath the surface.  Irritatingly, it was 'SoD' (Son of Duff) who pointed this out to me - so demeaning when you have to sit at the feet of your children and learn!  I will try and develop those thoughts a bit later.

 

Comments

[dearieme]

My offspring said "Dad, you were right about the double dip." I had to tell her that double dip might not be the best analogy: wiggly snake all the way down the board, more like.

[David Duff]

And one, moreover, that swallows its own tail!

[Umbongo]

DD

Thanks for this post - how refreshing to see common sense (IMHO) published in the paper press. The only economic commentator consistently taking the Der Spiegel position in the UK is Liam Halligan of the Sunday Telegraph. Mind you even Mathew Parris in today's Times is taking his colleague (Anatole Kaletsky) to task for AK's complaint that (basically) if the Fed hadn't let Lehman's collapse we'd all be in Paradise.

One Der Spiegel point I would disagree with is the option of bank rescue over sovereign rescue. There is a third way: let the banks go bust while 1. guaranteeing the small depositors (up to, say, the euro equivalent of the £85,000 at present guaranteed in the UK) and 2. national central banks and/or the ECB provide short-term liquidity to enable an orderly winding down of the short-term interbank market as the insolvent bank constituents of that market are put out of their misery.

This is, of course, what should have happened in 2007/8 in the UK. There was no need (apart from the 3 major collapsed banks being headquartered in Labour constituencies) to "save" RBS, Lloyds/HBOS or Northern Rock. In other words the financial system not individual banks could and would have been saved and the "haircut" would have been largely restricted to shareholders. Yes I know we're "shareholders" in major financial institutions through our pension schemes but what are the shares in RBS and Lloyds worth now?

[David Duff]

In principle, Bongers, I think you're right to suggest that the 'High St' banks should have been 'let go' but, so to speak, lowered carefully into the grave safeguarding small depositors but, alas, I lack the detailed knowledge to be absolutely how it would have been done.

[Lawrence Duff]

Look at Schauble, all he needs are the collars with two lightning strikes on each ...

SoD

[David Duff]

You're a very naughty boy, now go to bed!

[Peter MacFarlane]

"and that means you"

It doesn't mean me, I don't owe a penny to anyone and haven't for several years now.

And before you ask, I do NOT have a public sector pension!

My reward for this prudence is 5.5% inflation and 0.1% interest on my savings.

A plague on the lot of them.

[David Duff]

'I feel your pain', Peter, to use a particularly soppy current expression, not least because I am in a similar boat, can't quite remember the name . . . Ritanic? . . . Bitanic? . . . no, don't tell me, it will come to me in a moment!