Britannia Radio

FINANCIAL TIMES    26.1.09
1. Foul-weather friend  (leading article)

A friend in need is a friend indeed and these are needy times. 
Western Europe should heed pleas from the heads of central Europe's 
leading international banks, which urge Brussels to help east 
European countries weather the crisis - regardless of whether they 
are in the eurozone, or even the European Union.

With some exceptions, east European governments have husbanded their 
finances relatively well; their problems are in the private sector. 
They borrowed heavily, in large part in euros, to finance their catch-
up growth. But their currencies have weakened recently. East 
Europeans who took out loans in foreign currencies find themselves 
servicing appreciating debts from depreciating incomes. Should a 
banking crisis strike, there is a danger of going the way of Iceland 
in 2008, or Thailand a decade earlier.

As the credit squeeze tightens, these countries are more exposed than 
the west, but less equipped to protect themselves. They do not have 
the resources to shore up their banking systems and guarantee the 
supply of credit. To make things worse, actions taken to shore up 
banks in the west create incentives to move back capital from eastern 
Europe, siphoning off any new euro liquidity that those countries' 
governments can provide.

EU policymakers must include eastern Europe in their anti-crisis 
policy planning. The European Central Bank should extend liquidity, 
as it has previously done for non-eurozone EU members, notably 
Hungary. Regulatory action should be taken in concert with regulators 
throughout eastern Europe. Their central banks must, at least, be 
told what the ECB and other regulators in the west are intending to 
do. And the EU and ECB must also stand ready - and be seen to stand 
ready - to prevent meltdowns in neighbouring countries.

It is in the EU's interests to do so, but it is also a moral 
imperative. The EU's greatest recent achievement has been to open 
itself up to the post-communist eastern states and to encourage them 
to embrace democracy and free markets - including free financial 
markets. Countries that have already embarked on a path the EU has 
set out, meeting the conditions which it demands of aspirant new 
members, should not be left out in the cold.

This is no time for niggardliness. The benefits would be great and 
the costs rather meagre: small fractions of what is required to keep 
the more developed economies afloat. Capitalism is under pressure 
everywhere. We must not desert those who have only recently been 
allowed to embrace it.
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2. The benefits of a single European bond
By Wolfgang Münchau

The rise in European bond spreads has triggered a discussion among 
finance ministers about the wisdom of a joint issuance of a single 
European bond. It is a bad pretext for a good idea. It is difficult 
to see how a common bond issuance would solve the acute problem of a 
hypothetical payment default of a member state of the eurozone. But 
it is a good idea nevertheless. A common eurozone market for 
government debt would be a powerful rival to the US Treasury market 
and it could bring substantial financial and economic benefits.

The idea was predictably knocked down by the German finance minister, 
who quickly calculated that a joint European bond would cost Germany 
extra annual funding costs of ?3bn ($3.9bn, £2.8bn) a year. I do not 
know how he arrived at the figure because the actual cost depends 
greatly on how such a common bond would be constructed. In any case, 
if Germany was a loser, there would be a simple solution to the 
problem: let every loser be compensated by the winners. The financial 
and potentially economic benefits would be larger than the compensation.

When the Europeans created monetary union in the 1990s, the resulting 
short-term interest rate was not an arithmetic average. Instead, it 
converged towards the lowest interest rates among its members. So 
what would happen if you merged Germany's triple A bonds with the 
lower rated bonds of Greece, Italy, Portugal and Spain? Would you get 
an average? Would it converge to Germany's triple A rating, or 
towards Greece's A-minus? To answer that, the European Primary 
Dealers Association (EPDA) has conducted a survey among dealers and 
produced a discussion paper to evaluate a number of competing 
options. Indeed, it turns out that simply merging everybody's old and 
new debt into a single eurozone bond without any further supporting 
arrangements might not be the best answer.

But there are several alternatives. You could create a fund that 
guaranteed the coupon payments. Member states would pay into this 
fund according to some agreed criteria. The success of such an 
arrangement would obviously depend on its credibility among investors.

Mark Austen, managing director of the EPDA, says a simpler 
alternative would be a system that provided automatic caps on 
participation. Those caps could be determined on the basis of credit 
ratings, or on the ratio of debt to gross domestic product.

Yet another option is to keep the traditional bond market national, 
while creating a joint European market for treasury bills only. A 
bond is a long-term finance instrument with a fixed coupon, paid in 
regular intervals. A bill, by contrast, has a much shorter duration, 
normally a year, or less, and it is a discounted security. This means 
you buy a bill at a discounted price and it is repaid at par value on 
expiry.

The treasury bill market is huge in the US, much larger than in the 
eurozone, which is more reliant on traditional bonds. But the 
creation of a common bills market could be a good start. It is not 
nearly as controversial politically and European governments may even 
start to shift from bonds into bills over time. Once this experiment 
is deemed to have worked, you could merge the bond markets in a 
second step.

Any substantial move towards joint issuance would produce a 
government bond market that is large and more liquid and thus more 
likely to attract foreign investors. It would also provide better 
hedging opportunities. At present, the Bund future is considered an 
efficient contract as the gap between buying and selling prices is 
very low. But the Bund future is no great hedging instrument if you 
hold, say, Greek debt. With common issuance, you would have large, 
liquid markets for European bonds and also efficient European bond 
futures.

Richard Portes, professor of economics at the London Business School, 
makes the point that the eurozone already has a single and highly 
efficient corporate bond market, which benefited greatly from 
increased liquidity. His research has shown that comparable corporate 
bond spreads fell to levels below prevailing rates in the US.

There is no reason why that performance could not be matched in the 
market for sovereign debt. Largely because of the role of the dollar 
as a global reserve currency and the quasi-monopoly of the US 
treasury market, the US enjoys what economists pompously call the 
exorbitant privilege, essentially the ability to get something for 
nothing. In the case of the US, there is some research evidence that 
large demand for US treasuries from foreign investors has driven down 
bond yields. If the eurozone created an equally efficient bond 
market, there is no reason to think it would not share some of this 
exorbitant privilege.

What about the Maastricht Treaty's no bail-out clause? Would joint 
issuance not constitute an infringement of that rule? The answer is 
no. You can still have joint issuance, but divided liabilities. There 
are already plenty of examples, such as joint issuance of local 
government bonds in Japan and Scandinavia or joint issuance of the 
German regions.

We should remember, however, that common issuance cannot be a quick 
fix for rising spreads. This is why the timing of this debate is 
unfortunate. No scheme, however clever, will change the necessity for 
Greece, Portugal and Spain to undertake economic reforms.
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EUROPEAN VOICE   26.1.09
The sore test that may await the euro
By Jean Pisani-Ferry

The euro-area has built a firewall but lacks a fire brigade, as 
Greece's economic problems may be about to show.

For a long time, they all looked the same. The reckless and the 
virtuous, the sneaky and the upfront, all the member countries of the 
euro-area were treated identically, or nearly so, by capital markets. 
Bond spreads were minimal, as if sharing the same currency had 
eliminated all the differences between them.

Not any more. Having reached one percentage point in October and two 
in December, the bond spread between Greece and Germany continues to 
widen. Ireland is not far behind, and Italy and Portugal are hot on 
its tail. As for Spain, it has just been downgraded, like Greece.

It is not too difficult to see why Greece is a worrying case. It has 
built up a very high level of public debt (94% of GDP), a whopping 
current-account deficit (13% of GDP, three times higher than that of 
the US) and a rate of inflation regularly higher than its partners'. 
Greece has experienced a period of serious social unrest, hinting at 
its deeper malaise. Markets remember that it was only after Greece's 
entry into the euro-area in 2001 that the parlous state of its public 
finances was discovered. These classic ingredients of a crisis of 
confidence did not weigh heavily in the balance as long as the 
carefree environment of the past few years lasted. But things are 
different now, with a recession and a general increase in the 
aversion to risk.

But just what form an acute crisis of confidence vis-à-vis a member 
of the euro-area might take is harder to guess. We have never been 
here before. It is of course impossible to speculate against its 
exchange rate because Greece no longer has a national currency. The 
most likely reaction is that investors will be increasingly reluctant 
to buy its government bonds, with the result that bond spreads would 
increase, a vicious circle in which its debt would become more and 
more expensive to service, leading finally to partial default. This 
scenario appears improbable, as we are accustomed to assuming that a 
state cannot go bankrupt. But a glance at the history books will tell 
us that this has not always been the case at all.

A sovereign default would inevitably trigger contagion, as financial 
crises always do. Once the speculators have dug their teeth into a 
victim, they look for another - that is what happened on Friday with 
US investment banks. So there is a common interest in treating the 
disease immediately to stop it spreading. In concrete terms, that 
would mean imposing oversight of the economic policy of the country 
affected and an austerity package in return for the funds it needs. 
Just the kind of medicine the International Monetary Fund (IMF) 
dishes out to crisis-ridden countries.

The IMF loometh?
The hitch is that Europe is ill-equipped for such an intervention. It 
does not lack the machinery to oversee member states' policies, 
starting with the Stability Pact. But these procedures are 
essentially preventive in nature. They are designed to head off a 
crisis before it happens, not to manage it once it is here. The euro-
area does not have the tools to provide financial support to one of 
its members and, above all, Europe lacks the experience and the 
reputation that give IMF programmes their authority. So, if a serious 
crisis were to erupt in one of it member states, Europe could turn to 
the IMF.

This is not an agreeable prospect. The euro-area is an integrated 
group with its own governance rules, and should be capable of solving 
its own problems. No one has ever called in the IMF to bail out the 
state of New York or the city of Berlin, so why it be called in for a 
member of the single currency? Any intervention by the IMF would send 
a signal that Europe is economically impotent and politically weak.

The problem is that the euro-area was built for calm waters and has 
relied on the power of preventive mechanisms to ward off crises. The 
very fact that this question arises shows that these mechanisms do 
not work properly. It also shows that building a firewall does not 
mean that one can do without the fire brigade. But out of a 
reluctance to centralise and an aversion to mutualise debt, European 
countries have so far refused this hurdle. The current situation 
should give them food for thought. It is possibly too late for 
today's crisis, but not for tomorrow's and the one after that.
------------------------------------------------------------------------
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Jean Pisani-Ferry is director of Bruegel, the Brussels-based economic 
think-tank.
===================
EUREFERENDUM Blog       26.1.09
  The tranzi disease


A few days ago we wrote about a political disease called "futuritis" 
- the affliction which causes politicians to ignore to problems of 
today, while they focus on the sunlit uplands of some mythical 
future, when everything comes right.

Today, in the persona of our Revered Leader, Mr Gordon Brown, we see 
evidence of another, equally debilitating disease which we shall call 
"Tranzitis". This is manifest as a compulsion to ignore domestic 
issues - and home-grown solutions to problems which affect the 
nation. Instead, politicians look for international or preferably 
global solutions which they can apply to their own domains.

So it is that we see Mr Brown, wrapping himself in the Union Jack, 
pronouncing to all and sundry that he has been "warning for ten 
years" that the international financial markets needed to be more 
strongly regulated.  [A link to The Times didn't work here,  but he 
was very keen as Chancellor for all of those 10 years to loosen the 
regulations here in Britain !  -cs]

He tells us that it was a decade ago in Harvard that he first called 
for an international early warning system to alert countries to 
developing crises in any part of the world. This was needed "because 
the huge global growth and reach of financial systems meant that all 
markets, all economies and all banks were now interdependent."

This is a man who, at the same time, has presided over the collapse 
of the domestic financial market, admitting that he "did not see it 
coming". Not least of the problems was that British systems of 
regulation had been weakened in favour of untried and largely 
ineffective international systems - thus making them 
"interdependent", the creed of the tranzie.

Thus, while the man glibly talks about needing an "early warning 
system so that international financial flows are properly monitored," 
he fails to acknowledge that one of the things most lacking was an 
effective system for monitoring national financial flows and, for 
that matter, insulating our system from international shocks and bad 
debt.

In that sense, creating an "interdependent" system is setting up a 
domino chain - knock one down and they all go. We need independence, 
not interdependence, in core systems, in the same way that an airline 
has multiple independent control systems in case one fails.

How far the disease has spread is demonstrated by Brown's pathetic 
jibbering about creating "a framework for the international 
governance that we currently lack." We must, he says, "consider at a 
global level the regulatory deficit," complaining that "the current 
patchwork arrangement is inadequate."

Mr Brown should, of course, forget about "international governance" 
and concentrate on national governance, getting that right first. 
There, however, so many powers have been outsourced to international 
agencies - not least the EU - that there is very little he can do. 
Hence, it is much easier for his diseased brain to take refuge in his 
"tranzitis", in which delusional state, he can - in his own mind - 
ignore the train wreck that is the British economy.

However, the diseased mind cannot cure itself. We need an antibiotic 
- it is called "nationalism".
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Posted by Richard North