Les Echos quotes Klaus-Peter Flosbach, financial spokesman for German Chancellor Angela Merkel’s CDU, saying: “The coalition has agreed to give approval to financial aid for Greece under the condition of a sufficient commitment from private creditors, and we will stick to that…We want their participation to be as large as possible, and the [German] government must negotiate in this direction.” FT Deutschland reports that in a blow to German Finance Minister Wolfgang Schäuble, German banks have asked for public guarantees as a condition for contributing to a second Greek bail-out. A spokesman for German regional banks, the Landesbanken, is quoted saying that "waiting for voluntary help without conditions will not lead to success.” The Head of European sovereign ratings at S&P, Moritz Kraemer, suggested yesterday that even the proposed voluntary ‘rollover’ of Greek debt by private creditors would be deemed a default and would trigger a downgrade. Les Echos reports that a similar stance has been taken by Fitch this morning. An article in Handelsblatt notes that, in the light of these suggestions, the participation of banks in a second Greek bail-out looks increasingly unlikely. Prime Minister David Cameron reiterated that he did not want the UK involved in a second Greek bailout, beyond its IMF contribution, saying: "I don't believe that we will [be involved in a second Greek bailout] and I shall be fighting very hard to achieve that at the European Council this week." Open Europe’s finding that the UK would contribute to a second Greek bail-out to the tune of £1bn via the IMF is quoted by Italian daily La Stampa. Open Europe’s Director Mats Persson is quoted in the Telegraph explaining the possible breakdown of a second Greek bail-out. Open Europe’s Pieter Cleppe appeared on Sky News discussing the Greek crisis. Meanwhile, former Foreign Secretary Jack Straw yesterday said: “What the Government should do, instead of sheltering behind the complacent language, weasel words: it's not appropriate, we shouldn't speculate, [is] recognise that this eurozone cannot last and it's the responsibility of this British government to be open with the British people now about the alternative prospects.” During the same debate, Financial Secretary to the Treasury Mark Hoban said: "Clearly this crisis demonstrates the huge strain the eurozone in under." Open Europe’s Research Director Stephen Booth is quoted in the Express saying: “The Government…needs to take a far more pro-active approach in urging the eurozone to come up with a long-term sustainable solution.” An editorial in the FT argues, “European policymakers have elevated to the status of a founding myth the idea that because Lehman Brothers nearly brought down the financial system, every bank is systemically significant and cannot be allowed to fail. This not only led to the egregious mistake of Irish taxpayers bailing out German, French and British investors in private Irish banks; it also continues to pile pressure on European bank regulators to fudge stress tests”. I got briefed heavily last week that if Greece defaults it could be another Lehman style event. Indeed, so did everybody else. The world's media took this up and, lo, round about midnight sometime after the last Molotov cocktail was thrown on 15 June 2011, Angela Merkel decided there should be no private sector exposure to any soft rollover of Greek debt. I am now beginning to wonder. There is a lot of noise out there in the blogosphere that says, in fact, a Greek default would be manageable.Here for example. Meanwhile, the think-tank Open Europe is arguing for a controlled default now on the grounds that the losses will only increase (from 50% now to 69% in 2014) if we go ahead with a second bailout. Thinking this through (pile in if you think I am getting this wrong)… There is about 340bn debt in total (maybe bigger). The issue is who holds it. This is the story according to Capital Economics (see Chart 2). If we look at direct exposure to a default, and assume 50% is wiped out now, then the Greek banks and pension funds definitely get wiped out by the default. Suppose the top four most exposed banks get nailed: Agri, Hellenic, Piraeus and NBG - see the list here. They get nationalised and the state cannot hold them, so that alone forces the ECB and IMF to transfer taxpayers money into an emergency rescue of the Greek economy. That is just to keep the ATMs issuing money. But how much does it cost? I calculate on a rule of thumb basis the top four banks' assets to be 270bn, so recapitalising them is a large fraction of that, depending on what else comes out of the woodwork. The "haircut" on 18% of 340bn, added to the short term liquidity at risk, sinks the ECB, technically because there that exposure is doubled by the short term Greek collateral the ECB holds, which becomes worthless. It needs to call on the major states for more capital, which they provide. It is a reputational hit and a bit of a mindbender, but it is manageable, again, with North European taxpayers' money. If you add up its direct and collateral exposure it comes to about 90bn. Next, the Eurozone governments with their 12% (40bn) direct exposure take a hit (taxpayer again). So, to add it all up, you have the European taxpayer on the hook for about 50% of 400bn, i.e maybe 200bn max (Open Europe is saying 144bn), more than half of it a direct transfer to Greece, the rest to shore up holes in the ECB and their own sovereign debt. The contagion issue here becomes: do the markets take down Italy and Belgium, on top of Spain, as the overall cost of government borrowing rises? It is a big if. Meanwhile, what are the contagion effects into the banking system and the market in credit default swaps? Okay, so according to UBS research, the top eight banks exposed to Greek sovereign debt directly are Greek or Cypriot (by the way, that means goodbye Cyprus in any default, a theme not heavily dwelt upon in the past few days). But who is number nine? Step forward that perennial star of the crisis, Dexia. According to UBS research, the 3.5bn Dexia is exposed to constitutes 39% of its capital. So in a default, probably, it is goodbye Dexia. Dexia is based in Belgium which does not have a government but it does have a sovereign debt rating: this is AA and on negative watch. Its' debt is just below 100% of its GDP. That 4bn max it would cost to fix Dexia is peanuts compared to Belgium's 400bn sovereign debt, but then again adding it to the deficit in a single year would tank the country's credit rating even further. But hey, it is Belgium. The European government is based there so nothing can go wrong? Seriously, even if Dexia goes bust, and Belgium has to bail it out, it will simply have to do what it did before, and appeal to France to do the business instead, in a kind of cross-border nationalisation. So there again the French taxpayer takes a hit, but 4bn is only half an aircraft carrier. So the real issue is credit default swaps. How much derivative action is there going to be on a Greek default: how much of it simply hedging and how much of it speculative? According to DTCC there is 78bn worth of credit default insurance against Greece, but that is gross: the net losses are listed at 5bn. As to speculation, a market participant points out to me that the size of the CDS position on Greece has been shrinking as pension funds etc have been throwing in the towel as risks increase. What is the contagion risk on a 5bn net loss in the CDS system? Don't know. One really useful thing for the EU electorate would be if the EU finmins simply published their view of what the contagion risk is into this part-speculative, part-rational market. Now what are the alternate outcomes? Suppose we found Bank A/Hedgefund A had a massive bet on the Greek default not happening and would go bust as a result. After all that has happened shouldn't we just say, okay, let it happen? Would it not then be timely to bring forward, in the UK for example, Mr Andrew Haldane of the Financial Stability Committee, who might say: Institution A has endangered itself and the system by these rash bets on the Euro's survival so it must go bust? But maybe Institution A is systemic and cannot go bust without the ATMs and supply chains of the world closing down. In which case, even a TARP-style nationalization, (the US taxpayers got their money back remember) could solve this. Again the taxpayer takes the hit but it will be noted that the taxpayer of a solvent country is in a very good position to take that hit, because that country can borrow, leveraging its own money many times over, at low interest rates, because it is a country. I am playing devil's advocate here, so please join in and shoot me down for my illiteracy etc: but doesn't this all show there is in fact no systemic contagion risk into the banking system from a Greek default, and in fact the world financial system, which handled Argentina, can handle this? There is a massive shared hit to Europe's fiscal position, but there is a sound moral case behind taking that hit, because it was the Eurosystem that allowed Greece to run up the debt. And Europe is End of the world if Greece defaults?strong enough to take that hit. That leaves the banking contagion, and if we are overblowing it, cui bono? Well, when the original Euro bailout fund was formed last year Angela Merkel insisted the banks and pension funds who had lent the money would not take a hit until after 2013; now the IMF and ECB are urging Europe to create a new bailout fund to operate thereafter in which private investors never take a hit, ever. Even the relative seniority of taxpayers' money over bank money is to be ironed out in the new system. After three years of agonising about moral hazard we are basically creating a system where banks and pension funds can lend money to EU governments with a cast iron guarantee they will get their money back. It is great if you think we should be moving towards a new state capitalism, where the state becomes the permanent underwriter of financial profit, but it is not really a market. As they say on Twitter, #justasking Update: On the basis of some initial feedback to this blog, here is the counter argument: What is not factored in above is a "third level effect" on either banks or sovereigns. With sovereigns the risk is clear, that Spain, Belgium and Italy all face much higher borrowing costs and meanwhile Ireland and Portugal grab the same rollover option as Greece is being offered. Then, as another interlocutor points out, since banks funding is priced off sovereign debt, the costs there shoot through the roof. Simon Nixon of the WSJ tweets to say this would be a 1931-style event, precipitating slump, compared to Lehman as a "market" event, which precipitated a crash (if he is right so is JM Keynes in that fictitious interview I did with him at Christmas time). This is what most people are talking about when they say a Lehman style event is in the offing. Even then the difference with Lehman is we are forewarned, people have had months to unwind exposure. However, on the opposite side of the scale, there are no more monetary policy levers to pull to prevent a slump arising from any credit crunch. We are probably going to need QE3 just to get us through the slowdown. Finally, the ultra-bearish people on my contacts list see it playing out thus: Greece defaults and leaves Euro, Euro sovereign debt market seizes up, interbank markets seize again and this coincides with imminent exhaustion of the US and Chinese recovery cycles. That is really bleak.Open Europe Europe
New on the Open Europe blog
Greek default: End of the world or small patatas?
Tuesday, 21 June 2011
New Open Europe briefing: Second Greek bail-out will see almost two-thirds of Greek debt taxpayer-owned by 2014
Open Europe has this morning published a new briefing looking at the potential impact of a second Greek bail-out. The report finds that each household in the eurozone currently underwrites €535 in Greek debt, through the existing loan guarantees. By 2014, and following a second bail-out, this amount could increase to €1,450 per household, as around 64% of Greek debt would by then be held by official creditors (EU, IMF, ECB). The briefing also notes that, under a best case scenario, a second Greek bail-out would need to be worth €122bn, although this assumes that Greece can make good on its deficit targets and privatisation commitments. If Greece fails to meet these targets, the funding gap could increase to €166bn.
Open Europe’s Raoul Ruparel is quoted in the Guardian saying: "A second Greek bailout is almost certain to result in outright losses for taxpayers further down the road because, even with the help of additional money, Greece remains likely to default within the next few years…Another bail-out will also increase the cost of a Greek default, transferring a far bigger chunk of the burden from private investors to taxpayers". Raoul also appeared on BBC Five live this morning discussing the Greek crisis. Open Europe’s briefing is cited by the BBC Newsnight Economics Editor Paul Mason on his blog.
Credit rating agencies will consider voluntary extension of Greek debt as a default;
IMF ties Greek aid to bail-out pledges
Ahead of a vote of confidence on the new Greek cabinet today, the FT reports that the IMF has made another U-turn over the payment of the next tranche of Greek bail-out funds. The IMF is reported to have told EU finance ministers that it needed more concrete assurances that a bailout would be provided, following the on-going disagreement over private sector involvement. Greece needs to receive the funds by 15 July in order to avoid a disorderly default.
EUobserver reports that EU finance ministers yesterday came close to an agreement on the eurozone’s post-2013 permanent rescue fund, the European Stability Mechanism (ESM), which will have an effective lending capacity of €500bn. It was decided that the ESM will not enjoy ‘preferred creditor status’, which would have meant that ESM loans would be protected in the event of a default. EU ministers also agreed to increase guarantees for the eurozone’s temporary bail-out fund, the European Financial Stability Facility (EFSF), to a total €780bn in order to give the EFSF an effective lending capacity of €440bn.
Open Europe research FT WSJ FT 2 FT 3 FT 4 FT 5 WSJ 2 FT 6 Zerohedge Telegraph Express BBC Independent Le Monde Irish Times Mirror Times Irish Independent Times 2 Mail IHT EUobserver 3 Irish Independent EUobserver 4EUobserver 5 BBC: Today Express Economist: Charlemagne Guardian Irish Times El Pais 2 El Pais 3 Expresso Jornal de Negocios Guardian ABC Guardian 2 Guardian 3 La Stampa Le Monde 2 Les Echos Irish Times Les Echos 3 Les Echos 2 Il Sole 24 Ore Handelsblatt El Pais Financial Times Deutschland Vima Ta Nea Handelsblatt Standaard
EUobserver reports that yesterday Ireland’s Deputy Prime Minister Eamon Gilmore said: “There is a growing impatience in Ireland about the resistance to giving Ireland a lower rate of interest [on its EU/IMF bail-out].”
Italian daily Il Corriere della Sera reports that credit rating agency Moody’s has put its rating of Italy’s main publicly-owned companies and 23 Italian regions and cities under review.
EU finance ministers clash over new derivatives rules
The FT reports that EU finance ministers are split on proposed rules to regulate derivatives trading. Chancellor George Osborne stressed the UK’s worries about the scale of the potential role of the European Securities and Markets Authority (ESMA), the new pan-EU supervisor, and the possibility that UK taxpayers could have a potential liability for decisions taken by the watchdog.
Eurozone comment round-up
The front page of German magazine Der Spiegel depicts an obituary to the euro, with a picture of a euro coin on a coffin wrapped in a Greek flag. The article argues that it is “time for Plan B” as “the euro is becoming an ever greater threat to Europe's common future. The currency union chains together economies that are simply incompatible.” An editorial in El Pais argues, “Greece doesn’t have an option (it’s austerity or default)…But even in an extreme crisis, with a country on the edge close to collapsing and with markets bursting at the seams, the [eurozone] finance ministers are not capable of putting an agreement together to save Greece from immediate disaster.”
Writing on her BBC blog, Stephanie Flanders argues, “But amid the talk of the long-term cost of default, it's worth noting that countries can pay a penalty for NOT defaulting as well, not just in terms of slower growth but also higher interest rates.
Guardian: Pratley El Pais: editorial ABC: editorial City AM IHT: Rodrik IHT: Harrison IHT: Johnson IHT: Hatzis IHT: de Rugy IHT: Gros IHT: Levy Yeyati IHT: Cibis IHT: Lachman IHT: Comment BBC: Mason Economist: Bagehot FT: Rachman FT: Monti ZDF: Biedenkopf-Kürten FT: Rattner FT: Greene FT Editorial FT: Altman WSJ: Heard on the StreetIndependent: Carr Independent: O’Grady BBC: Peston BBC: Flanders Irish Times Telegraph Mail Der Spiegel Spiegel Analysis English Spiegel ZDF: Biedenkopf-Kürten Handelsblatt SZ
La Tribune reports that, following an ECJ ruling, the European Commission has decided to cut the 2012 budget for the European Programme of Food Aid for the Most Deprived Persons by €400m leaving it at €113m – a sum many charities argue will leave two million Europeans without the necessary food next year.
The FT reports that EU leaders are expected to endorse the temporary re-introduction of border controls within the EU’s visa-free Schengen area in the event of a ‘truly critical’ increase of illegal immigration. The proposed rules will see Schengen countries being first offered assistance from the Commission and the EU’s border agency Frontex, before being allowed to temporarily exclude themselves from Schengen.
The Guardian reports that an EU-US agreement allowing for personal air travel data to be held for 15 years has been classified as “not compatible with fundamental rights” by the European Commission’s own lawyers.
The Greek crisis: What next?
Abandon ship: Time to stop bailing out Greece?
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