Financial markets move at lightning speeds that contrast
sharply with the slowness of the European political process.
Whether politicians and financiers can bridge the gap in coming
weeks likely to decide the fate of the euro.
The signals coming out of this weekends annual
meetings of the International Monetary Fund and World Bank were
not positive. Bankers and officials alike stepped up pressure
on euro area leaders to take bolder and faster steps to prevent
the blocs sovereign debt problem from spinning out of
control. U.S. Treasury Secretary Timothy Geithner urged
European governments to create a firewall against further
contagion, while Bank of Canada Government Mark Carney
said governments needed to amass about 1 trillion ($1.35
trillion) in firepower more than double the blocs
existing 440 billion bailout facility to
overwhelm the crisis.
European officials stuck to their current script, however,
insisting that the group needs to focus on ratifying an
agreement struck by EU leaders in July to increase the
flexibility and effective size of the bailout fund, the
European Financial Stability Facility. The German Bundestag is
due to vote on that agreement on Thursday (September 29), and
parliaments in skeptical Finland and the Netherlands also need
to give their assent in coming weeks. No one wants to put
ratification in jeopardy by talking about additional government
support for the periphery before that accord is adopted.
German Finance Minister Wolfgang Schäuble offered a
bracing message of German tough love in a speech to the
Institute of International Finance, a banking lobby that meets
alongside the IMF meetings. European governments were
determined to defend the euro, he said, but he offered no hint
that Berlin was ready to stump up more money. Instead, he said
states with excessive debts need to aggressively pursue fiscal
austerity and economic reform. And he rejected the view put
forward by the IMF itself this week that too much deficit
reduction by countries like Germany and the U.S. in the short
term would worsen the economic slowdown and make debt problems
even more intractable.
We wont come to grips with economies
deleveraging by having governments and central banks throwing
literally even more money at the problem,
he said. You simply cannot fight fire with
In the short term, markets are worried about Greeces
spiraling mountain of debt, which will exceed 150 percent of
GDP this year, and waning political support for austerity in
Athens at a time of deep economic recession. Bruce Kasman, J.P.
Morgans chief economist, told an IIF panel that the
current EU-IMF economic program has pushed Greece into a
recession more severe than Argentinas a decade ago and
would drive its debt up to more than 190 percent of GDP by the
end of this decade; its arguable that the country would
be better off leaving the euro, he suggested, an option that
remains anathema for EU officialdom. Greece is insolvent
and the European monetary union and the EU as a whole needs to
deal with it, Kasman said. It hasnt come to
terms yet with how to deal with it.
Greek Finance Minister Evangelos Venizelos last week hinted
that the government would try to negotiate a bigger writedown
of private-sector bondholdings than the 21 percent included in
the July agreement to persuade Greeks; some analysts argue that
a 50 percent writedown is necessary. But Josef Ackermann, the
Deutsche Bank CEO and head of the IIF, which helped negotiate
the July writedown, warned against asking more of banks. As it
is, many lenders are balking at the July terms. If we now
start to reopen that Pandoras box, I think we lose a lot
of time and Im not sure people will be willing to
participate, he said. Any unravelling of the July deal,
moreover, would threaten a Greek default and the spread of
contagion, he added.
European officials are working behind the scenes on ways to
prevent contagion, whatever happens with Greece. One idea,
proposed a few months ago by Deutsche Bank chief economist
Thomas Mayer and suggested by Geithner to euro area Finance
ministers a little over a week ago, would turn the EFSF into a
bank and have it buy bonds from countries like Italy and Spain
with a liquidity backstop from the European Central Bank.
We need to find something more credible to give support
to Italy, Mayer told a panel at the IMF meetings.
But Jürgen Stark, who announced his resignation from
the ECB earlier this month because of his opposition to the
banks existing bond purchases, insisted that the idea
would never fly. It is a step too far, he told
Institutional Investor on the margins of the IIF meeting.
It is monetary financing of government debt,
something thats strictly forbidden by the Maastricht
Treaty that established the euro. Stark also sent a thinly
veiled rebuke to U.S. officials to focus on their own debt
problems. All governments should do their homework before
giving advice to others, he told an IIF panel.
Another idea being discussed would have the EFSF provide
first-loss guarantees for buyers of Italian and Spanish bonds.
A 20 percent first-loss guarantee, for example, would
effectively leverage the EFSFs funds by five to one,
giving it greater market impact and luring private investors
back into the market. The mechanics of such an arrangement
would take weeks to work out at the least, and would almost
certainly require overt political backing from Berlin, Paris
and other capitals. The silence so far from EU leaders
pledging support for the euro but not spelling out how that
might be achieved doesnt suggest a plan B is
waiting in the wings.
The dilemma is clear, said Ackermann. Markets are demanding
a comprehensive and credible plan to contain the debt crisis,
he said, but the politics are daunting. This is a very
difficult political matter to convince taxpayers ... that
its in their best interest to support the
periphery, he said.