Euro Zone Strikes Deal on 2nd Greek Package, EFSF

The markets like the announcement. Of course they also liked QE2…

Unfortunately, as previously discussed, without the ECB the EFSF isn’t sustainable. It’s like trying to lift up the bucket by the handle when you are standing in it.

Nor is it cast in stone yet, but all subject to details.

Also, the positive market response, if it continues, only encourages the continuing austerity measures that are weakening the euro economy and forcing already unsustainable deficits higher.

And, again, it’s a case of ‘the food was terrible and the portions were small.’

Starting with the 50% private sector loss on Greek bonds-

Presumably that ‘works’ if it indeed brings Greek debt down to 120% of GDP from 160% by 2020. But that implies the austerity measures won’t continue to reduce GDP and cause the Greek deficit to increase, as continues to be the case.

It presumes the 50% haircut will be considered sufficiently voluntary to not be a credit event that triggers a variety of global default clauses.

The rest of the ‘package’ presumes markets won’t reduce the presumed credit worthiness of member nations who fund the EFSF.

It presumes private sector funds will recapitalize the banks that lost capital on the write downs.

It presumes the EFSF won’t be needed to fully fund Portugal, Spain, and Italy.

It presumes banks and other investors required to be prudent and financially responsible to shareholders will continue to buy other euro member nation debt even after seeing the euro zone members allow Greece to default on half of their obligations.

That is, how could any bank now buy, for example, Italian debt, in full knowledge that euro zone policy options include a forced write down of that debt. And not in extreme, unforeseen circumstances, but under current conditions.

And how can prudent investors invest in the banks when they’ve just seen euro zone remove some 100 billion euro in equity by decree?

The problem is, it takes a presumption of general improvement to presume additional losses will not be incurred by investors.

And it takes a presumption of general improvement to presume the EFSF will be successful.

And that requires the presumption that continued austerity measures will result in a general improvement.

Even as all evidence (and most theory) is showing the opposite.

Euro deal leaves much to do on rescue fund, Greek debt

By Luke baker and Julien Toyer

October 27 (Reuters) — Euro zone leaders struck a last-minute deal to limit the damage from the currency bloc’s debt crisis early on Thursday but are still far from finalizing plans to slash Greece’s debt burden and strengthen their rescue fund.

MERKEL: ECB INVOLVEMENT IN EFSF LEVERAGE RULED OUT

Looks like Merkel is speaking purely for political effect, which may be all she’s capable of, unfortunately.

Fact is, from the beginning, without the ECB ultimately writing the check, it’s all been in ponzi.

And like all ponzi’s, it seems to work on the way up, and disintegrates on the way down.

With the ECB writing the check, deficits can be determined by further political/public purpose, without concern of ‘market forces’ undermining finance.

Without the ECB writing the check, it all probably keeps disintegrating, as none of the member nations can be inherently solvent without some form of ECB support.

MERKEL SAYS GOAL OF TONIGHTS DISCUSSIONS MUST BE TO HAVE A SOLUT ION WHICH PUTS GREECE AT A DEBT TO GDP RATIO OF 120 PCT BY 2020
MERKEL: ECB INVOLVEMENT IN EFSF LEVERAGE RULED OUT
MERKEL: GERMAN EFSF CONTRIBUTION WON’T EXCEED E211 BLN
MERKEL: BANK RECAP NECESSARY TO PREVENT CONTAGION
MERKEL: NEED PERMANENT SUPERVISION OF GREECE
MERKEL: TROIKA SUPERVISION DOESN’T SUFFICE
MERKEL: GREEK BOND HAIRCUT ALONE WON’T SOLVE PROBLEMS
MERKEL:PSI MUST BE MUCH HIGHER THAN AGREED ON JULY 21
MERKEL: NEED SIGNIFICANT PSI IN GREEK RESCUE

ECB’s Stark: US Has an ‘Enormous’ Debt Problem

So much for Jeurgen’s legacy:

US Has an ‘Enormous’ Debt Problem: ECB Official

September 1 (CNBC) — A debt crisis is still gripping the developed world, European Central Bank policymaker Juergen Stark said, adding there was no alternative but for countries to take painful steps to consolidate their public finances.

“The crisis is not over. Not just in Europe is it not over, it is also not over in other regions of the world,” he said, adding the United States had an “enormous” debt problem and lacked the structures to get the problem under control.

Stark estimated the level of public debt at around 84 percent of gross domestic product for the euro zone and at a little below 100 percent of GDP for the US, according to Dow Jones newswire.

“Just consider what levels of debt we are passing on to future generations,” he said, according to DJ. “This isn’t responsible, politically, morally or ethically.”

Stark, a member of the ECB’s executive board, declined to discuss ECB monetary policy during a panel discussion at the Alpbach Forum economic conference on Thursday.

Fears Grow over the Fate of Irish Economy, Banks

The two external shocks of the summer were China, which historically has had second half slowdowns due to State lending front loaded to the first half, and the euro zone which became a ward of the ECB. China’s growth has slowed some, but not collapsed, and the ECB has continued its support of euro member solvency and funding capability in the short term markets.

There was no credible deposit insurance for the euro zone banks until the ECB ‘wrote the check’ by buying national govt debt in the secondary markets. It’s not the most efficient way to do things, but it does work to facilitate national govts being able to fund themselves, though mainly in the very short term markets (I still see my per capita distribution proposal as the better policy response). And that ability of the member nations to fund themselves means they can write the check for deposit insurance as needed.

The ECB also imposed ‘terms and conditions’ along with funding assistance, and as long as Ireland is in compliance, the ECB is for the most part responsible for the outcomes, so it seems logical the ECB will continue its support, perhaps changing its terms and conditions if not pleased with the outcomes. Additionally, the ECB will continue to supply liquidity directly to the banks, again, as with Ireland complying with the terms and conditions the ECB is now responsible for the outcomes.

But there is no question it is all a precarious brew, and there is no telling what might result in the ECB withdrawing support, so at this time steep yield curves for euro member nations due to credit risk make perfect sense.

Also, Europe and the rest of the world would like nothing more than to increase net exports to the US.

It’s all a golden opportunity for a decade or more of unparalleled US prosperity if we knew enough to again become the ‘engine of growth’ and implement the likes of a full payroll tax (FICA) holiday to provide Americans working for a living enough spending power to buy both everything we could produce at full employment and all the rest of the world wants to net sell us.

Unfortunately the deficit myths continue to cast a wet blanket over domestic demand as our leaders continue to let us down.

And with maybe 100 new Congressmen on the way, with most supporting a balanced budget and a balanced budget amendment which already has maybe 125 votes, there’s more than enough fiscal responsibility looming to create a true depression.

Hopefully their tax cutting agenda outweighs their balanced budget agenda.

And hopefully we get some kind of energy policy to decouple GDP growth from a spike in energy consumption.

Fears Grow over the Fate of Irish Economy, Banks

By Patrick Allen

September 8(CNBC) — The fate of the Irish economy is back in focus for investors across the world, after the former Celtic Tiger extended guarantees to its banking industry and depositors and with the spread on Irish bonds hitting record highs.

The country is also waiting for a decision from the European Commission on the fate of Anglo Irish, the troubled bank that was nationalized two years ago; uncertainty on whether Anglo Irish will be wound down or allowed to survive has weighed on sentiment towards the country.

Ireland is an example of a Western economy adjusting to both the banking crisis and, crucially, the emergence of Asia, Amit Kara, an economist at Morgan Stanley, said.

“Ireland has taken steps to overcome the hangover from the credit boom, but a successful outcome requires the economy to become more competitive and also, and more crucially, a global economic recovery,” Kara said.

He is confident the Irish economy will be able to roll over debt in the coming weeks and sees the chance for Irish debt to outperform the likes of Spain.

“Though Ireland faces serious long-term challenges, its liquidity position is healthy and its banks should have sufficient ECB-eligible collateral to significantly offset the funding impact of upcoming debt redemptions,” Kara explained.

“Given the underperformance of recent weeks, we see scope for Irish bonds to regain some ground against Portugal and Spain in particular, once the initial round of government-guaranteed bond redemptions has taken place over the first two weeks of September,” he added.

What is on Ireland’s Books?

The Irish banking system remains hooked on European Central Bank funding and investors are also worried about the risks posed by the scale of liabilities following Ireland’s decision to guarantee the country’s lenders.

Hanke on Greece

Hate to criticize someone proposing a payroll tax holiday- darn that Lerner’s law!


A Big Bang for Greece

There is a way out of the debt trap for Athens.

By Stece H. Hanke

June 30 (WSJ) — How did Greece get into the death spiral that it’s in? Unfunded entitlements. In other words, promise somebody something, don’t come up with the financing for it, and pretty soon you find yourself in a fiscal/debt crisis.

Yes, happens to those who are not the issuer of their currency all the time, including those with fixed fx arrangements. EU members, US States, corporations, households, Russia when fixed to the dollar, Mexico when fixed to the dollar, etc.

But never with issuers of the currency. They can always make payments as desired.

This is where Greece ended up, and in February, the Greek government called in some outside advisers (Joseph Stiglitz for one), and the blame game began. Prime Minister Papandreou, who is also president of Socialist International, started blaming everyone. First, it was the speculators. Then he went on a tear against his own colleagues in the European Union. The Germans really got whacked­ according to Mr. Papandreou, they were a big cause of Greece’s troubles.

Never would have happened under the drachma. Just would have been the usual inflation and currency depreciation.

But Greece is a user of the euro, not the issuer like the ECB is.

Ironically, after blaming outsiders for all their problems, the Greeks have called in the foreign doctors. In this case it isn’t just the IMF, but also the EU politicians and bureaucrats who are involved. But this may ultimately be a case in which the doctors kill the patient.

The problem ended for Greece and the entire eu in general only after the ECB agreed to ‘write the check’ and started buying greek bonds.

There was no other way.

To address the moral hazard issue that comes with ECB support, the ECB insisted on the ‘terms and conditions’ to contain inflation possibilities

They haven’t started with what they should be doing, but with a standard IMF-type austerity program. The government has promised to cut public expenditures. It has also raised taxes. Unlike neighboring Bulgaria, which did exactly the right thing by refusing to increase its VAT, Greece has increased its VAT twice since the crisis.

What should Greece have done? It should have started with a Big Bang, doing a number of things simultaneously a la New Zealand. In 1984, New Zealand elected a Labor government after Robert Muldoon’s National Party governments had made a complete mess of the economy. The Muldoon governments introduced, over the course of almost a decade, a socialist-style system in New Zealand. Labor, under finance minister Roger Douglas, introduced structural reforms centered on deregulation and competitiveness. As a consequence, New Zealand had a massive economic revolution after the ’84 election. Greece should adopt a New Zealand-type Big Bang.

The NZ gov was the issuer of its own currency and therefore didn’t face the solvency problem Greece did. otherwise it would have been an entirely different story.

As part of its Big Bang, Greece should have begun by rescheduling its debt. But it also should have implemented a supply-side fiscal consolidation. That means cutting government expenditures, but also changing the tax regime.

Without the ECB writing the check, that would have resulted in a systemic collapse of the euro member national govts and the payments system in general.

With the ECB writing the check there are other options.

Right now, Greece has very onerous payroll taxes that are paid by employers and, ultimately, labor. As part of a Big Bang, Greece should eliminate the employer contribution to payroll taxes, which is currently 28% of wages (employees pay a further 16% rate directly).

With funding entirely dependent on the good will of the ECB, those decisions are up to the ECB, not Greece. If they cross the ECB they get cut off and again face default.

At the same time, Greece should make its VAT rates uniform. Right now, there are three VAT rates in Greece. This is typical in Europe. You have the regular VAT, a VAT that is reduced by 50% for other categories, and, finally, a super-reduced VAT. I would eliminate the reduced and super-reduced rates, and just have one, uniform rate for the VAT one set below the current top VAT rate of 23%.

If Greece did those two things, it would end up generating more revenue than it is generating right now. Even when based on a static, simple-minded analysis, that would put Greece ahead of the revenue game.

At the macro level for the EU it’s about the right fiscal balance needed to sustain growth and employment, which is probably a deficit higher than the growth rate. But at the micro level it’s about credit worthiness which means a deficit lower than the growth rate. So the members need to be tighter than the union needs to be. This requires a central govt/ECB that runs the needed deficits to make it all work efficiently. Much like the US states balance and the fed govt runs the deficits.

But more importantly, it would also substantially reduce its economy’s labor costs overnight. Employers’ social security contributions are about 7.8% of GDP. Eliminating the employer contribution would yield about a 22% reduction in the overall Greek wage bill as a percentage of GDP. This would make the Greek economy more competitive­ without the currency devaluation that some commentators claim is necessary. These changes would also, obviously, reduce consumption, increase savings, and reduce the level of debt in the country.

Allow me to make a comment about devaluation. There are some people who are wringing their hands and saying, “Well, the problem with Greece is that it put itself into a euro straitjacket and it can’t devalue the drachma anymore. So, Greece is in a trap. There’s nothing it can do!”

Yes, but note devaluing was never a policy tool. It was the consequence of policy. Today the consequence of the same policy is default rather than currency depreciation.

But there is something the Greeks can do. They can reduce the economy’s total labor cost by 22%, simply by eliminating the employer contribution to payroll taxes. To see what the size of a devaluation would have to be to generate a positive competitiveness shock of this magnitude, let’s assume that 50% of a devaluation would be passed through to the economy in the form of increased inflation­ reasonable assumption about a small, open economy like Greece’s.

In this case, Greece would have to have a 44% devaluation to be equivalent, in terms of competitiveness, to the positive shock that would accompany the elimination of the employer contribution to payroll taxes.

So, with the elimination of the employer contribution to the payroll tax, Greece would enhance its competitiveness. The enhancement would be equal to roughly a 44% devaluation. Moreover, the supply-side generated competitiveness would not be accompanied by the inflation and widespread private-sector bankruptcy that a devaluation would provoke.

Needless to say, neither Greece nor its international partners are contemplating a voluntary debt restructuring,

That would also require a restructuring of the banking system as the loss of capital would require some kind of adjustment as well.

let alone a supply-side Big Bang, which makes it more likely that Greece will remain stuck in a trap. But don’t let anyone tell you there’s nothing Greece could do. It’s not too late to change course. What’s more, other countries in Europe that are facing down a possible debt crisis could likewise try a similar approach­reschedule debt, cut taxes on labor to improve competitiveness and spur job creation, while raising some consumption taxes to keep the revenue coming in. There is a way out of the Greek trap.

Mr. Hanke is a professor of applied economics at the Johns Hopkins University in Baltimore and a senior fellow at the Cato Institute in Washington, D.C. This article is adapted from remarks made at the Cato Institute’s Policy Forum, “Europe’s Economic Crisis and the Future of the Euro,” on May 11, 2010, Washington, D.C.

ECB’s Trichet Says European Economy Showing ‘Encouraging’ Signs

The ECB has ‘written the check’ by buying national govt bonds in the secondary market in sufficient size to allow the national govs to fund themselves, and equities are coming back as solvency fears abate.

There is still solvency risk, but now that risk is the risk of the ECB cutting off any nation in question.

And with exports firming the same forces are causing the currency to strengthen to the point where net exports remain relatively stable.

The ECB is also in full control of the banking system liquidity, as it too is dependent on ECB funding, and dictates terms and conditions there as well, where there need be no failures (even a bank with negative capital can be sustained by liquidity provision) unless the ECB decides to let a bank fail.

EU Headlines:

ECB’s Trichet Says European Economy Showing ‘Encouraging’ Signs

Trichet dismisses fears over eurozone

Trichet Says European Capacity to Decide Always Underestimated

Trichet Says Bond Market Developments ‘Going in Right Direction’

Trichet Calls for ‘Appropriate’ Action on Stress Tests

Banks Will Need More Cash After Stress Tests

EU ‘Stress’ Tests Shrouded in Secrecy

EU Commission’s Barroso Says Bank Stress Tests Are ‘Credible’

ECB’s Bini Smaghi Says Greece Must Maintain Consolidation Effort

Bini Smaghi Says Market Rate Increase Won’t Affect Bank Loans

Stark Says ECB’s Monetary Analysis Enforces Discipline

Annual German Inflation Slows in June to 0.9 Per Cent

German Upper House Approves Naked Short-Selling Ban

French Manufacturing Rose in May, Lifted by Exports, Car Output

Italian Production Climbs as Weak Euro, Recovery Lifts Exports

Spain to allow cajas to sell 50% of equity

Greece Approves Austerity Plan Amid Outcry

EU Daily | European Industrial Orders Increase for Third Month

As previously discussed, it is possible their deficits already got high enough and the euro low enough to support very modest growth when market forces intervened to stop further fiscal expansion.

One problem now is proactive cuts can set them back if a combination of private sector credit and exports doesn’t expand at the same time.

And expanding exports remains problematic as that would tend to strengthen the currency to the point where net exports remain relatively low, and there is nothing they can do to keep the euro down should that happen.

Another problem is the market forces that are working to limit their fiscal expansion will continue to hamper their ability to fund themselves, especially with continuing talk of ‘restructuring’ which, functionally, is a form of default.

I’ve read the ECB is now buying about 10 billion euro/week of national govt bonds in the secondary markets and ‘learning and demonstrating’ that it is not inflationary, doesn’t cause a currency collapse, and poses no operational risk to the ECB as some feared it might. As they all become ‘comfortable’ with this look for market forces to ‘force’ them to expand the buying geometrically as happened with their funding of their banking system, where much of the ‘risk’ is now at the ECB as they accept collateral for funding from their member banks that no one else will.

Operationally the ECB can fund the whole shooting match. And if they can address the moral hazard the usual way via the growth and stability pact, this time with the leverage of being able to threaten to cut off ECB funding to punish non compliance.

This ‘solution’ of the ECB buying national govt debt in the secondary markets is conceptually/functionally nearly identical to my proposal of per capita distributions to the national govts by the ECB. The difference is my proposal would not have ‘rewarded bad behavior’ as theirs does, but that’s a relatively minor consideration for them at the moment, and if they continue doing what they are doing, they have ‘saved the euro,’ even though having the ECB fund all the banks and national govts wasn’t their original idea of how it all would end up.

European Industrial Orders Increase for Third Month

Trichet Says Current Situation Requires ‘Credible Measures’

ECB’s Trichet Says Italian Budget Cuts Go in ‘Right Direction’

German debt agency asked to issue bonds

Schäuble defends German austerity

German Government Won’t Turn to Tax Cuts Amid Deficit Reduction

S&P’s Kraemer Sees No ‘Serious Risk’ of Euro Break Up

Merkel Defends Spending Cuts, Gets Backing From Trichet

Germany Sees Jobless Numbers at Under 3 Million

French Consumer Spending Gains on Signs Job Market Is Improving

French Economy to Expand 1.4% This Year on Exports, Insee Says

Zapatero Says Not Cutting Deficit Would Raise Interest Costs

re: Trichet statement

The old german model was tight fiscal to keep domestic demand down, costs down, to help exporters. this made the mark strong so they sold marks vs dollars to keep it weak at the expense of the macro economy but to the benefit of the exporters.

The euro zone is trying same but can’t buy dollars for ideological reasons- it would look like the dollar is backing the euro as a reserve currency, etc.

So the euro gets strong to the point where the export strategy is thwarted. Hence it went up to 160 to the dollar before it all broke down and ‘automatic’ counter cyclical deficits kicked in which weakened the euro, which they are now trying to reverse with austerity. But going broke trying, etc.

From Pragmatic Capitalist:

ECB Official Raps IMF’s ‘Helicopter Money’


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He’s right on this point. Functionally it is fiscal expansion, though not all that much as a percentage of world GDP.

The question is whether I’s warranted to support demand and how to decide which nations should get it:

ECB’s Stark raps move to boost IMF drawing rights

by Marc Jones

April 7 (International Business Times) — European Central Bank Executive Board member Juergen Stark was quoted on Tuesday as criticizing decisions made at the G20 summit to boost the IMF’s Special Drawing Rights (SDRs).

Stark suggested in a newspaper article that the decision was potentially inflationary as it would create “helicopter money” and that it had not been properly thought out.

Last week leaders from the Group of 20 wealthy and emerging economies agreed to support a general allocation of $250 billion worth of International Monetary Fund’s SDRs alongside other measures to boost the Fund’s firepower.

Countries hit particularly hard by the global economic crisis would be allowed to increase their SDR share by using those of another country which may not need them.

The results of the G20 summit have been broadly welcomed by policymakers by Stark questioned whether this decision was needed.

“That is pure money creation. That is helicopter money for the globe,” he was quoted as saying in an article in German business daily Handelsblatt.

“There was no examination of whether there is a global need for additional liquidity at all… One used to take a lot of time to examine something like this,” he said.


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ECB’s Stark bravado


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No mention of the $300 billion they’ve borrowed from the Fed to stay afloat…

ECB’s Stark Says Euro Prevented Worse Crisis Fall-Out, RBB Says

Jan. 5 (Bloomberg) — The euro has shielded the nations using the single currency from greater fall-out from the financial crisis, European Central Bank Executive Board member Juergen Stark said in an interview with German radio station RBB.

“The euro has saved us in the euro area from worse economic consequences,” Stark said in the interview broadcast on Jan. 3 and posted on RBB’s Web site.

Before the introduction of the euro 10 years ago, turbulence similar to that experienced last year also led to “considerable tensions” between the European currencies and governments, Stark told the broadcaster. The euro prevented that, he said.

Stark said in the interview that the single currency has been a “large success” and that the ECB has handled its challenges well.


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