Sunday, October 23, 2011

Euro Summit v37.0

There is a very important meeting going on in Brussels, including the Prime Ministers and Finance Ministers of all major European nations. Their mission is to try to save their banking systems as well as keep insolvent nations like Greece from defaulting in their debts, which might be disasterous for the undercapitalized banks in Europe.

But, we've been here before. And before. And before. And this is part of the problem.. the markets simply bowl over any solution they have come up with previously because they are all too small. The political leaders are three steps behind the markets, and have been since 2008. Their solutions have proved to be nothing more than bandaids placed on an open, sucking chest wound because they refuse to recognize the scale of the problem. Because of interbank lending schemes and credit default swaps, it's actually quite a complicated mess.

This time, however, they seem to realize the scale of the problem. Tim Geithner has proposed a solution that would essentially make Europe's Bailout Fund {called the EFSF} into a bank, and then leverage it up by 10-1. The EFSF currently has about $440 billion.. leveraging it up would put it's power over $4 trillion. The problem with this is that if the "EFSF Bank" loses more than the $440 billion, the European Central Bank {ECB}would be responsible for simply printing the difference. Thats what we here in the US do. In a worst case scenario, the ECB would print a couple of trillion dollars and this would greatly weaken the Euro currency. This plan is backed by France, Italy, the US, Spain and a few others.

The problem is that Germany strongly opposes such a measure. Worse, the German Supreme Court has ruled that this cannot be done without the approval of either the Bundestag {Germany's Senate} or a direct vote of the people. As I type this, neither the Bundestag or the German people will approve anything like this. Nor will they approve simply putting more money into the EFSF. The plan the German Chancellor Angela Merkel is putting forth is threefold: First to force a 50% "haircut" on Greek debts. Second is to use $125 billion from the EFSF to recapitalize some European banks that would be in trouble when these haircuts take place. Third is to use the remaining amount of the EFSF to guarantee that if Italy, Spain or any other European nation's bonds go into default, the EFSF will cover the first 20% of the loss. Overall, it seems the Germans are trying to use the existing $440 billion as wisely as possible without threatening the worth of the currency or committing more money-- which, at this point, it looks like Chancellor Merkel would not be able to deliver anyways-- the German Supreme Court has made sure of that. The German people feel {rightly} that they should not be made to pay or guarantee the losses of other nations problems.. and they are not alone. The Dutch, Austrian and Finnish governments fully stand behind Germany.

Chancellor Merkel has already said that the summit will last until Wednesday.

This summit is a very high pressure situation. Here is an article on what it's like for the participants there, including the name calling, cat fights, and illegal cigarette breaks:

Here's what I expect-- I think some sort of deal to recapitalize banks will get done by later today; I look for it to be in the neighborhood of $125 billion. From there, I fully expect that the German Plan is what's going to pass-- for no other reason than Merkel cannot deliver anything more, which I actually believe she herself wants to do. Since part three of the German plan will cover 20% losses with the remaining $275 billion, they're going to nerd wrestle the numbers and announce that a $1.375 trillion plan has been agreed on {this represents the $275 billion x 5}. It's hard to say how the markets will take this come the end of the summit. I thought they would be in the gutter over the last two weeks, but the opposite happened-- mostly based on rumors and a couple decent economic reports. Initially I think they'll be up.

Will this work ?
For the short term, possibly.
But come 2012, this will not be nearly enough.

Update Sunday 430pm: The Eurozone Summit could'nt accomplish a single thing.. “A broad agreement is taking shape,” Sarkozy said. “Today, we will not undertake any decisions, but will undertake preparatory work,” German Chancellor Angela Merkel told reporters Sunday. 

Update Thursday 6am: Looks like a deal has been reached. 50% haircuts on Greek debt + $130 billion to recapitalize banks + $1.2 trillion to backstop Spain & Italy. In the short term, this will work. By next year more will need to be done. You still cannot solve a problem of debt with more of it, but Greece's haircuts were at least a first step in the right direction. 


  1. Thanks for your "expectations", MOI. Regardless of its probability or occurrence, it helps to wrap one's mind around the problem, and direction. Any thoughts about how long France's AAA survives under such an undertaking? Week? Month? Year?

  2. What happens this week will determine the answer to your question. If the 'German Plan' prevails as I think it will, France's ratings might be OK for a while as a part of this plan involves recapitalizing French banks. The problem comes when someone else {Italy ?}gets into serious trouble and the EFSF isn't anywhere near big enough to support the failing nation, most of which have been loaned money by large French banks who are backed up by the French state. Keep an eye on Italy's ten year bond rate; if you see it go over 7.0% then you know BIG trouble is ahead. Anything over 6.5% is the danger zone.

  3. I see no end to the debt crisis in europe' jim rogers has commented recently that the only real solution to this problem and the problem of that national debt of the united states is for these countries to just declare their inability to repay their debts' and than just default.