Showing posts with label Euro. Show all posts
Showing posts with label Euro. Show all posts

Thursday 14 June 2012

The European debt crisis explained: The debt levels around the globe are unprecedented in peacetime.





The European debt crisis explained: The debt levels around the globe are unprecedented in peacetime.

The odds of restructurings and/or defaults are higher than most believe. When does debt become unsustainable? The video shows the debt levels of numerous countries have reached "problem" levels. Since the bill coming due in the form of maturing bonds is so large, policymakers in Europe have no easy way out.

"Solutions" may include printing money to create inflation or debt restructurings/defaults; or a combination of the two. 

Chris Ciovacco of Ciovacco Capital Management compares healthy markets to the current state of affairs.
Which investments tend to perform well during deflation/defaults/restructurings?
Which investments tend to perform well during periods of inflation/money printing by central banks?
What is a back-door bazooka?





 A breakdown of the European debt situation, starting with Greece and consuming the entire continent.

Monday 4 June 2012

Spain is in 'total emergency’, the EU in total denial



After a Spanish exit from the euro, there would be nothing left to exit from.

Greece on brink of collapse - Spain is in 'total emergency’, the EU in total denial
Greece in turmoil: but its significance has shrinked in comparison to the possibility of a spectacular crash in Spain, the fourth largest economy in the EU Photo: AFP/GETTY
I’ve never actually heard the term “total emergency” before, at least not in the context of global economics. It sounds like the title of a disaster movie. When it is uttered in sober tones by the elder statesman of an advanced democracy to describe his country’s financial condition, the effect is rather startling.
The man who delivered this apocalyptic judgment, former Spanish prime minister Felipe González, being a socialist, might be expected to detest austerity programmes that require cuts to government spending. But there seemed to be few disinterested observers of Spain’s economy prepared to quibble with his assessment.
Forget Grexit. Greece’s teeny, tiny economy is a footnote now. As is Ireland’s decision – which seemed more like a sigh of resignation than a plebiscite – to engage in however much self-flagellation the EU gods insist on, for however long it takes. What might have seemed dramatic a week or so ago has now shrivelled in importance by comparison to the realistic possibility of a spectacular crash in the fourth largest economy in the EU. Spexit (and Spanic) are lodged in the lexicon, and have become part of the psychological reality that moves markets. The equivalent of more than £55 billion was withdrawn and transported out of Spain last month – and that was before the country’s largest bank was nationalised. No one seems to be kidding himself that the collapse of the Spanish economy could be somehow weathered and overcome, as the default of Greece might be.

Read more here:

The week that Europe stopped pretending


The euro has essentially broken down as a viable economic and political undertaking. The latest rush of events reeks of impending denouement.

A one euro coin is melted with a welding torch in this photo illustration
The debt markets are pricing in for a global deflationary bust. Europe will have to restore shattered trust in the worst possible circumstances Photo: Reuters
Switzerland is threatening capital controls to repel bank flight from Euroland. The Swiss two-year note has fallen to -0.32pc, not that it seems to make any difference.
Denmark’s central bank said it was battening down the hatches for a "splintering" of EMU. It has cut interest rates twice in a matter or days and pledged to do whatever it takes to stop euros flooding into the country. Contingency plans are on the lips of officials in every capital in Europe, and beyond.
On a single day, the European Commission said monetary union was in danger of "disintegration" and the European Central Bank said it was "unsustainable" as constructed. Their plaintive cries may have fallen on deaf ears in Berlin, but they were heard all too clearly by investors across the world.
Joschka Fischer, Germany’s former vice-Chancellor, said EU leaders have two weeks left to save the project.
"Europe continues to try to quench the fire with gasoline – German-enforced austerity. In a mere three years, the eurozone’s financial crisis has become an existential crisis for Europe."
"Let’s not delude ourselves: If the euro falls apart, so will the European Union, triggering a global economic crisis on a scale that most people alive today have never experienced," he said.
Mr Fischer has the matter backwards. The euro itself is the chief cause of the existential crisis he discerns. Yet he is right that three precious year have been squandered, and that Europe‘s policy mix has been atrociously misguided. The pace of fiscal tightening has been too extreme, made much worse by the ECB’s monetary tightening last year. This inflicted a double-barrelled shock on Southern Europe. The whole region was forced back into slump before it had reached "escape velocity".
The window of opportunity offered by US recovery is slamming shut again. America’s dire jobs data for May - and the downward revision for April - confirm the fears of cycle specialists that the US economy has slipped below stall speed. America risks tanking back into recession as the "fiscal cliff" approaches late this year, unless the Fed comes to the rescue again soon.
Brazil wilted in the first quarter. India grew at the slowest pace in nine years. China’s HSBC manufacturing index fell further into contraction in May, with new orders dropping sharply and inventories rising.
We face the grim possibility that all key engines of the global system will sputter together, this time with interest rates already near zero in the West and average public debt in the OECD club already at a record 106pc of GDP.
"The world’s largest emerging economies are no longer in a position to carry the global economy through tough times, as they did during the 'recovery' years of 2009-2011," said China expert Andy Xie.
The warnings from the bond markets could hardly be clearer. German 10-year Bund yields closed at 1.17pc. The two-year notes turned negative. British Gilts closed at 1.53pc, the lowest in 300 years. US Treasuries fell to 1.45pc, lower than at any time during the Great Depression.
The debt markets are pricing in for a global deflationary bust. Europe will have to restore shattered trust in the worst possible circumstances.
If deposit flight from Spain was €66bn in March before the Greek election tore away the pretence that Europe had solved anything, one dreads to think what it will be in April and May when the data come out.
Alberto Gallo from RBS says Spain will need an EU rescue package of €370bn to €450bn to bail out its crippled property lenders and limp through to 2014, pushing public debt to 110pc of GDP.
This would be the biggest loan package in history by a huge margin. Whether the EU bail-out fund could raise the money on the global markets at viable cost is an open question.
Spanish premier Mariano Rajoy vowed in any case last week that there would no such rescue. It is not a vow he can break quickly or easily, whatever dissidents in his party may want.
Mr Rajoy is gambling that Germany will blink first, letting the ECB intervene in the bond markets to cap Spanish yields.
Europe’s officials seem to think Spain can be pushed into a bail-out - as Ireland and Portugal were pushed - but it is far from clear that Mr Rajoy will accept the long agony of debt-deflation, or take lessons from Brussels.
Heretical thoughts are gaining traction. El Confidencial suggested that Spain should engage in "blackmail" against the EU ("chantaje" in Spanish). "Rajoy has a card up his sleeve: leaving the euro. It is not the best option, and fundamentally it is not what most people want. But the time has come to make Brussels a poisonous proposal: "we have already done everything we possibly can, and if you won’t help us, we will leave," it said.
Mr Rajoy has not yet reached such a desperate point, yet his language over the weekend has an ambiguous feel. "We must ensure that the euro remains the currency of our countries," he told Catalan business leaders.
A group of leading professors wrote a joint appeal in Expansion, exhorting the Spanish nation to muffle their ears and resist the "siren song" of those arguing - and gaining ground - that liberation lies at hand with an "Argentine" dash for the peseta and economic sovereignty. It has come to this.
Italy is scarcely more predictable. Ex-premier Silvio Berlusconi offered us his cunningly pitched "mad idea" on Friday. If the ECB refuses to act as a lender of last resort, Italy should take matters into its own hands. "We should use our own mint to print euros," he said. It is a thinly veiled threat.
"People are in shock. Confidence has collapsed. We have never had such a dark future," he said. Indeed, the jobless rate for youth has jumped from 27pc to 35pc in a year. Terrorism has returned. Anarchists knee-capped the head of Ansaldo Nucleare last month. Italy’s tax office chief was nearly blinded by a letter bomb.
"If Europe refuses to listen to our demands, we should say 'bye, bye’ and leave the euro. Or tell the Germans to leave the euro if they are not happy," he said.
Mr Berlusconi is no longer prime minister. But he still controls the biggest bloc of seats in the Italian parliament and can bring the technocrat government of Mario Monti to its knees at any time.
His point is entirely valid in any case. The ECB’s failure to ensure financial stability - the primary task of any central bank - is shockingly irresponsible. It is this that has driven his country into a liquidity crisis. What did Italy do wrong to justify a surge in bond spreads to a record 464 basis points last week? It is close to primary budget surplus, and has been for five years.
Germany can break the logjam at any time by agreeing to fiscal union, debt-pooling and full mobilization of the ECB, with all that this implies for its democracy. The answer from Chancellor Angela Merkel over the weekend was "under no circumstances". In that case, prepare for the consequences.


http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/9309669/The-week-that-Europe-stopped-pretending.html

Friday 9 December 2011

ECB cuts rates but downplays crisis help


December 9, 2011 - 6:04AM

The European Central Bank acted to soften a looming recession and avert a credit crunch by cutting interest rates and offering banks long-term funds on Thursday but spooked markets by dousing hopes of dramatic crisis-fighting action in the euro area.

ECB President Mario Draghi discouraged expectations that the bank would massively step up buying of government bonds if European Union leaders, gathering in Brussels for a crucial summit, agree on moves towards closer fiscal union.

He said the euro zone's rescue fund should remain the main tool to fight bond market contagion, despite its clear limits, and said it was illegal for the ECB or national central banks to lend money to the IMF to buy euro zone bonds, appearing to veto one firefighting option under active consideration.

To counter that, Draghi announced unprecedented action to support Europe's cash-starved banks with three-year liquidity and cut interest rates back to a record low 1.0 percent.

The euro and European shares dived as markets, increasingly convinced that only the ECB has the power to protect the euro zone, focused on what Draghi was cool about rather than the measures he announced.

"One step forward, two steps back," said Alan Clarke, UK and euro zone economist at Scotia Capital. "The euro zone leaders might as well not bother. Pack their bags, go home, enjoy the weekend and do their Christmas shopping."

The ECB cut its main rate by a quarter-point and flagged a strong chance of recession next year. Draghi admitted the central bankers had been divided even on that decision.

"The intensified financial market tensions are continuing to dampen economic activity in the euro area and the outlook remains subject to high uncertainty and substantial downside risks," he told a news conference.

French President Nicolas Sarkozy dramatised the danger facing the 17-nation single currency area hours before their eighth crisis summit of the year in a speech to European conservative leaders in the French port city of Marseille.


"Never has the risk of Europe exploding been so big," he told leaders including German Chancellor Angela Merkel and the heads of the EU institutions.

"The diagnosis is that the euro, which should inspire confidence, is not inspiring this confidence," the French leader said. "If there is no deal on Friday, there will be no second chance."

France and Germany used the Marseille meeting to lobby for their plan to amend the European Union treaty to toughen budget discipline, which they want to have ready by March. But several countries are sceptical of full-blown treaty change.

German Chancellor Angela Merkel said she was convinced leaders would find a solution to the euro crisis at the summit.

The new ECB chief said his remark last week that "other measures" might follow if euro zone leaders agreed to seal tougher new budget rules had been overinterpreted as hinting the bank could step up bond purchases.

"I was surprised by the implicit meaning that was given," Draghi said, without offering an alternative interpretation.

The plight of Europe's banks was thrown into sharp relief. Two financial sources told Reuters that watchdog the European Banking Authority had told them to increase their capital by a total of 114.7 billion euros, significantly more than predicted two months ago.

A Reuters poll of economists found that while 33 out of 57 believe the euro zone will probably survive in its current form, 38 of those questioned expect this week's summit will fail to deliver a decisive solution to the debt crisis.

DIVISIONS

Euro zone officials said the summit was likely to decide to bring forward the launch date of a permanent bailout fund to 2012 from mid-2013. Before Draghi spoke, one euro zone source said negotiators were close to agreement for their central banks to lend 150 billion euros to the IMF for firefighting.

However, a proposal to give the permanent European Stability Mechanism a banking licence with access to ECB funding was "off the table" due to German opposition.

The EU remains divided over the need for treaty change. Summit chairman Herman Van Rompuy is urging leaders to avoid a laborious full overhaul that could take up to two years and face uncertain ratification. He wants them instead to slip stricter budget enforcement through in a protocol to existing treaties.

This infuriated Merkel and was one reason behind a gloomy briefing by a senior German official on Wednesday, who dampened hopes for a breakthrough and said some leaders and institutions still didn't understand the severity of the crisis.

If all 27 EU states do not support more fiscal union by adapting the existing Lisbon treaty, which took eight years to negotiate, then Sarkozy and Merkel want the 17 euro zone countries to go ahead alone with more integration.

"Should it turn out that not all 27 are able to go down this path, then we have to make a treaty change for the 17 euro states," said Luxembourg premier Jean-Claude Juncker, who chairs the grouping of euro zone finance ministers. "I don't want this but I don't exclude it."

Swedish Prime Minister Fredrik Reinfeldt, speaking for a non-euro state, said: "We want to stick with the 27 concept of course because all of us are members of the European Union and we want to have our influence. We want to keep the European project together."

The Franco-German plan would slap automatic penalties on countries that overshoot deficit targets and make countries anchor a balanced budget rule in their constitutions. The sanctions could be stopped only if three quarters of euro zone countries are against them.

Not all euro zone countries are comfortable with all the French and German proposals, with Finland opposed to their call for majority votes on major policy decisions.

U.S. Treasury Secretary Timothy Geithner, ending a visit to Europe to urge decisive action with talks with new Italian Prime Minister Mario Monti, said it was essential for European leaders to strengthen their financial firewall to give economic reforms a chance to work.

Monti is pushing through economic reforms after the euro zone's third biggest economy found itself sucked to the centre of the debt crisis.

In one glimmer of positive news for stressed euro zone countries, two big financial clearing houses cut the cost of using Italian bonds to raise funds following some easing in the country's bond yields.

Reuters



Read more: http://www.smh.com.au/business/world-business/ecb-cuts-rates-but-downplays-crisis-help-20111209-1olyh.html#ixzz1fzJNGtpk

US stocks fall on Europe woes


December 9, 2011 - 9:01AM
UPDATE

Wall Street fell after the European Central Bank dashed hopes that policy-makers were preparing a financial "bazooka" to contain the debt crisis, and Germany rejected some proposals to add power to the euro zone's bailout fund.

US markets have been on edge all week in anticipation of a summit deal that would come to grips with the euro zone's growing debt crisis, and pave the way for greater action by the ECB to hold down bond yields.

But actions from Europe - both early and late in the day - were a stark disappointment.

Before the market's open, ECB President Mario Draghi discouraged expectations that the central bank would massively increase its purchases of government bonds after a crucial Brussels summit on Friday.

Shortly before the closing bell, Germany rejected some measures in draft conclusions from the summit, including giving the European Stability Mechanism (ESM) a banking license and issuing common euro-zone debt. US stocks and the euro fell sharply following the news. 

"It looks like it's (the opposition) coming from Germany. That just spells more trouble ahead in the days to come," said Peter Cardillo, chief market economist at Rockwell Global Capital in New York.

More than 44,500 S&P E-Mini futures contracts traded between 3:40 p.m. and 3:45 p.m., when the Germany headline appeared. This was the busiest five minutes of the day, other than the last five minutes of trading, which typically has the highest volume.

Banks slide


The S&P financial sector index was the biggest loser, falling 3.7 per cent. That followed sharp losses in European banks' shares as sources told Reuters the European Banking Authority (EBA) sees the capital shortfall at European banks at 114.7 billion euros ($154 billion).

Shares of Morgan Stanley, a barometer of risk aversion due to its perceived exposure to Europe's crisis, fell 8.4 per cent to $15.88.

The latest developments from Europe overshadowed a cut in the bloc's interest rate to a record low 1 per cent and extra liquidity provisions for banks.

The Dow Jones industrial average tumbled 198.67 points, or 1.63 per cent, to end at 11,997.70. The Standard & Poor's 500 Index fell 26.66 points, or 2.11 per cent, to 1234.35. The Nasdaq Composite Index lost 52.83 points, or 1.99 per cent, to close at 2596.38.

The decline comes after three days of gains for US stocks when the S&P 500 tried and failed to stay above its 200-day moving average, which has been a key level for investors to watch this year, and one that could prove tough to break.

But Thursday's pullback, concentrated in economically sensitive areas, was a far cry from the wild swings of recent months when uncertainty over Europe has dominated headlines. That is being seen as a sign of resilience by many investors who are hoping for seasonal strength into the end of the year.

Yields on European sovereign debt spiked. Ten-year Italian government bond yields rose 44 basis points to 6.51 per cent - the day's high. German Bund futures hit a session high of 136.89, up 109 ticks on the day.

Earlier, data showed US jobless claims fell more than expected in the latest week, a sign the labor market recovery was gaining momentum. Claims slid to a nine-month low.

Reuters



Read more: http://www.smh.com.au/business/markets/us-stocks-fall-on-europe-woes-20111209-1olzd.html#ixzz1fzHBjN8R

Tuesday 6 December 2011

Irish PM warns of pain ahead for country


Ireland's prime minister, Enda Kenny, makes the first televised address to the nation in a quarter of a century, saying many of its citizens' financial situations would get worse before they got better.



Speaking ahead of the Irish government's first budget, Mr Kenny warned it would be the harshest of its five-year term and admitted that no one inIreland would be left unaffected by the austerity drive.
"I wish I could tell you that the budget won't impact on every citizen in need. But I can't," he said.
"I know this is an exceptional event but we live in exceptional times and we face an exceptional challenge."
The speech was made under 2009 legislation that allows the prime minister to address the nation on television in the event of a major emergency. The last time this happened was in 1986.
Mr Kenny was swept to power with a record majority in February on a wave of voter anger over the country's economic collapse and the harsh rescue terms laid down by its European partners.
His predecessor Brian Cowen was widely criticised for not addressing the nation on the financial crisis that led the state to take on tens of billions of euros of debt from private banks and eventually to a EU-IMF bail-out.
Since its election in February, the government has broadly maintained its support, with an opinion poll on Sunday giving Mr Kenny's centre-right Fine Gael party 32 per cent, down from 36 per cent in the election.

Italy welfare minister breaks down in tears as government agrees austerity measures

Italy welfare minister breaks down in tears as government agrees austerity measures


Elsa Fornero, the Italian welfare minister, broke down in tears as the technocratic government adopted an aggressive €30bn (£26bn) austerity package in a bid to stave of the crisis enveloping the country.



Mario Monti, the Italian prime minister, declared the package of tax hikes, budget cuts and pension reforms a "decree to save Italy", at a press conference following after a cabinet meeting.
Italy will "put its deficit and debt under strong control" so that the country is "not seen as a suspicious flash point by Europe," he said.
He also warned that Italians had to make "sacrifices" and said he was renouncing his own salary as prime minister in a gesture of solidarity.
The three-year package includes a controversial pension reform that will increase the minimum pension age for women to 62 starting next year and fall into line with men by 2018, by which time both will retire at 66.
The number of years that men have to pay contributions to receive their full pensions will also be increased from the current level of 40 to 42.
Ms Fornero, whose proposals have already been criticised by Italy's main trade unions, broke down as she outlined the changes.
"We had to... and it cost us a lot psychologically... ask for a..." Ms Fornero said, but was unable to complete her sentence as she wiped tears from her eyes.
Mr Monti finished the sentence for her, speaking the word "sacrifice" that she'd been unable say.
The package also increases taxes on housing and luxury items and raises value-added tax - which has already been raised by one percentage point this year - by two percentage points to 23 percent from the second quarter of 2012.
Final approval of the reforms in parliament is expected before Christmas.
The crucial government meeting had been scheduled for Monday but it was brought forward by Monti in a bid to finalise the budget reforms before the markets open in a crucial week for the future of the euro.
A former top European Union commissioner who came to power just three weeks ago after the flamboyant Silvio Berlusconi was ousted by a wave of panic on financial markets, Monti said Italy was at a dramatic crossroads.
"We're faced with an alternative between the current situation, with the required sacrifices, or an insolvent state, and a euro destroyed perhaps by Italy's infamy," he said.
Italy is under intense pressure from its eurozone neighbours and international investors to introduce draconian measures to rein in its public debt ahead of a crucial European Union summit on Thursday and Friday.
Rome has already adopted two austerity packages this year but the European Commission indicated that the eurozone's third largest economy would fail to reach its target of balancing the budget by 2013 without more belt-tightening.
Italian unions voiced their opposition, even though a planned overhaul of labour laws to make it easier for companies to fire workers has been postponed to a future date.
Susanna Camusso, head of Italy's largest union, the CGIL, said the measures were aimed at "making money on the backs of poor people in our country."
"There is no equity" in the proposed package, she said, adding that all the main unions should team up to evaluate their response to the measures.
Economists are worried that the toxic mix of high borrowing costs, massive debt and low growth could push Italy - the eurozone's third largest economy - towards insolvency within months.
The government has denied persistent rumours that it is preparing to accept a credit line from the International Monetary Fund (IMF), following in the wake of bailouts for fellow eurozone members Greece, Ireland and Portugal.
But the IMF and the EU have been keeping Italy under special surveillance through teams of auditors to ensure it implements long-delayed reforms and a reduction in a debt mountain equivalent to 120 percent of output.
France and Germany say a debt blow-up in Italy could kill off the entire euro area and observers warn Italy is "too big to bail" in case of a default.
Angelino Alfano, the leader of Berlusconi's People of Freedom party, the biggest party in parliament, also put the situation in stark terms: "The choice is between a harsh plan today and the risk of bankruptcy tomorrow."

Friday 2 December 2011

Can the euro be saved?


If Chancellor Angela Merkel, below, agrees to a massive bailout, that should buy enough time for agreement on the second, long-term step to euro salvation - Can the euro be saved?
If Chancellor Angela Merkel, above, agrees to a massive bail-out, that should buy enough time for agreement on the second, long-term step to euro salvation 
The clock is ticking for the euro. After 11 years circulating in shops and bars from Athens to Zeebrugge, there are, it is said, just 10 days left to save it – or perhaps eight, since it was on Wednesday that Olli Rehn, Europe’s Economic and Monetary Affairs Commissioner, made his startling prediction of the euro’s imminent demise.
The fact that Rehn, an official at the heart of the euro project, came out with such a stark assessment has brought what many thought was unthinkable into the realm of the thinkable. So thinkable, in fact, that governments (including our own), central banks, lawyers, financial institutions and investors are making contingency plans for what is assumed will be an economic event of cataclysmic proportions.
But can the euro be saved? And if it does break up, what are the implications for the UK, a country that has stubbornly stayed out of the euro, but which can’t escape the consequences of events in the next week, culminating in another crunch meeting in Brussels next Friday? Sadly, a financial Flash Gordon doesn’t exist. There is no comic book hero to appear at the last minute to save the euro. To do that, the eurozone’s leaders must overcome entrenched political differences over how a rescue is mounted.
Scepticism that Germany, France and Italy can bury their differences, agree the measures necessary and bring the other 14 squabbling euro members to the table has left markets deeply unconvinced. After all, we have been here before.
There are two steps to saving the single currency. The first is a short-term bail-out of continental proportions, probably costing up to 1 trillion euros (£856 billion), for countries such as Greece and Italy which are about to run out of cash to pay their bills. By the eurozone governments agreeing to provide unlimited support for near-broke colleagues, the cost of borrowing for these stricken countries would fall, enabling them to borrow again and pay their IOUs to the region’s increasingly shaky banks.
It was the parlous state of these mainly European lenders that prompted Wednesday’s intervention by central banks, led by the US Federal Reserve. However, their action – to let loose an ocean of cheap dollars – was first and foremost about saving banks that are wobbling because of the euro, not to save the euro itself.
Anyway, assuming the inflation-phobic Angela Merkel and her German colleagues can agree to a massive bail-out, that should buy enough time for agreement on the second, long-term step to euro salvation. That is, an agreement for EU treaty changes, or possibly a series of bilateral agreements, that will bind the 17 member countries in closer financial union. The upshot would be a dilution of national sovereignty, submitting each parliament’s tax and spend policies to Brussels for approval under the watchful eye of the Frankfurt-based European Central Bank (ECB). But it would, in theory, stabilise the political system the euro relies on.
The arguments raging between Berlin, Paris, Rome and Brussels are over how all this is to be achieved in ways that are politically acceptable to everyone. The ECB’s president, Mario Draghi, has already refused to be the eurozone’s lender of last resort; anyway, the EU treaty bans it from lending to governments. Mrs Merkel again repeated her opposition to bail-outs yesterday.
On Wednesday, European finance ministers all but admitted they had failed to agree on ways to bolster the increasingly discredited European Financial Stability Facility (EFSF) and are turning to the International Monetary Fund (IMF) to step in and help overcome Europe’s political and legal barriers to delivering the short-term “big bazooka”. But if that is delivered then politicians such as Mrs Merkel will want to make sure Europe never goes through this again. She will want a clear understanding by the end of next week that fiscal union – in effect, much closer political union – is the quid pro quo for a bail-out. German voters are sick of seeing their prudence support the profligacy of southern Europe, be it Greece, Spain, Portugal or Italy.
This really is a defining moment. And not just for the eurozone countries. Preserving the euro, and convincing markets that there is a meaningful plan for the future, is central to the UK’s interests, too. Europe is our biggest trading partner and our wish for a more balanced, less City-dependent and more export-led economy relies on stability and growth on the Continent.
But politics moves at a snail’s pace, while markets are lightning quick to sense any weakness in a financial system. If there is no concrete and convincing action by the end of next week, it seems inevitable that the previously unthinkable will happen. The euro will start to unravel and any break-up in the short term would inevitably be disorderly.
Markets know that the combination of recession and austerity plans is leaving governments such as Italy and Greece short of cash to pay their debts. Between now and the middle of 2014, Italy must find 651 billion euros to roll over its liabilities, which stand at 2.4 trillion euros and growing. Without the massive cash support of a bail-out, Italy risks being unable to pay its bills and default would follow.
That doesn’t necessarily mean it would leave the euro, but countries that have suffered the catastrophic event of welching on their debts, such as Argentina, have devalued to restore competitiveness and, ultimately, credibility to their economies. The only way for an Italy or Greece to do that is to leave the euro. Markets may soon force their hand anyway, by instigating a run on their banks and repatriating euros into safer havens such as Germany, leaving these countries unable, and politically unwilling, to function within the eurozone.
Once out, according to economists, it would take a matter of days, rather than weeks, for a country to replace euros with another denomination bank note. Ideally, it would have a stock already prepared. In the interim, it could issue small denomination IOUs that would become a new form of cash, exchangeable for goods and services.
Leaving the euro would almost certainly see a country imposing capital controls. If Greece left, then a Briton with a holiday home on Kos, and presumably a bank account there, wouldn’t be able to liquidate assets and get cash out. That trapped cash would also be forcibly converted into new drachmas and would lose a chunk of its value as the new currency devalued. The same would happen to any financial or business contract struck in euros with a Greek counterparty. The break-up of the euro would keep lawyers busy for years.
Stinging investors also risks a country acquiring pariah status in capital markets, which might become reluctant to lend any more. But the advantage of adopting a much devalued drachma would be to make exports cheaper and the economy far more competitive, which could mean its fortunes start to look up. With a smile back on its face, Greece might become an advert for leaving the single currency, making it even harder to keep the euro together. Once one goes, others will follow.
In the short term, this would be bad for Britain, too. A disorderly break-up involving a large sovereign default would hit our banks. Credit would become more expensive, if available at all, and trade would shrink. David Cameron summed it up yesterday: “If the euro fell apart, what you would see is a very steep decline in the GDP, the economic growth, of all countries in Europe, including Britain.”
But then again, a country, or countries, free to set their own interest rates, and enjoying a cheaper currency, would make for potentially stronger export markets for us.
An alternative would be for Germany to exit the euro, perhaps with other relatively strong nations, including France, Finland and the Netherlands. This would leave the more stable economies with the problem of adopting a new currency and the weaker, peripheral members with the old euro. It would be worth less than a new “northern euro” but some of the worst disruption would be avoided.
Probably the best we can hope for is that next week ends with real action on a eurozone bail-out that buys sufficient time for its 17 members to agree, and plan, an orderly restructuring over the next two to three years. That way will allow some countries to leave – and the euro diehards to continue their perilous monetary adventure alone.