Monday, May 23, 2011

Default, deception and European debt

Europe has economic and political problems that just won't quit. There is a stench of desperation in the air that has gotten so strong that the President of the EU Council, Herman van Rompuy, has effectively told heads of government to STFU, lest they freak out the markets and send investors fleeing unnecessarily. On the contrary, Europe is suffering from a deep psychosis.

It's unlikely to make much difference unless there are real reasons for investors to think that Europe has its act together. And Europe doesn't. Standard and Poors has already downgraded bonds from Greece and Portugal to within a breath of junk bond status earlier this year. Those bonds, as well as those of Spain and Italy, are under renewed pressure as S&P considers a further downgrade of Italy.

The only question that anyone cares about, but that the politicians haven't accepted yet, is which of these countries will default on their debt this year, and by how much. If no default were likely, the problem would take care of itself. Imagine raking in the high interest payments on debt that you just bought for a big discount. The markets aren't buying it. Literally and figuratively.

Europe, with the exception of the ECB, (For its part, the ECB is demanding that the Greeks and everyone else pay in full, and that Europe reject any talk  of default, under whatever deceptive label it might come .) sent a strong message last week that it wants to let Greece default without actually calling it a default. A partial default is called a restructuring and is pretty common. But no one wants to say that. Talk started to circulate of 'soft restructuring', as if this would make an difference to anyone. When it was clear that it wouldn't, European finance ministers started talk of 're-profiling' the debt, which did nothing but slap a new label on an old plan. Last week, realising that someone would have to do something, the EU Council asked banks holding bonds from these countries not to ask for the money back.

Why does Europe think that banks and other institutional financial investors would hold on to such a crappy investment? It's the state equivalent of a sub-prime mortgage. Sooner or later, you want to get rid of it. The less confidence you have in the ability of the borrower, the sooner you want to sell. And if it isn't clear by now, holding on to that debt in the hope that it will be repaid, or at least that markets will re-invest in it at some point out of speculation, is hoping that a new economic bubble will wash the problems away. Or at least onto someone else's balance sheet.

That is a really bad idea. It's like a serious alcoholic who's trying to hide the booze bottles rather than admit having a problem and taking on the pain and responsibility of rehab. But lies and delusion don't make a problem go away. They prolong the disease and the agony. And everyone turns their backs on you.

Under these conditions, when Europe is deliberately trying to mislead the world about the depth of its problems, there are serious reasons to object to Europe insisting on its right to head the IMF. It wants to hold on to its prestige and power by birthright rather than merit, a point that is both legitimate and gaining steam internationally. It's like the town drunk, insisting on running the liquor store. Unless Europe shows a change of heart, that is another really bad idea. Europe hasn't hit bottom yet, and still thinks its in control.

It's time to take away the keys.

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