Wednesday, July 27, 2011

Sovereign Default and Banking Collapse

In a recent stress test of selected European banks, the European Banking Authority made it known that it did not test what would happen if a country defaulted on its debt. Not Greece, not Portugal, not Italy and not the United States.

That means, at the least, that the official outcomes of the stress tests are useless. More seriously, it means that the EBA's official position on the possibility of default (that politicians are talking about amongst themselves very prominently) is that they don't want to talk about it. That is tantamount to reckless endangerment of the European financial system.

Given the obvious possibility of default, and the necessity of factoring it into stability scenarios, the only real question is: who is responsible for ordering the bank regulators to back off from the truth? Possibly, it is the bank regulators themselves who are shielding banks from the light of day. That would be bad enough. But it isn't likely that they could do such a thing without heads of government allowing or insisting that they do so.

Europe and its people deserve better. The EBA without realistic stress testing is, as my grandfather would have said, as useful as tits on a bull.

Tuesday, July 26, 2011

And the War Continues

It has been but a few days since European leaders agreed a new bailout for Greece and financial markets are already tightening the screws as if little had happened. This applies not only to Greece, but to Italy, Spain and Portugal as well. Why?

In a nutshell, the problems are simply to big and the resources are simply too modest to dampen future speculation against southern rim countries in the EU. The first set of problems lies within the affected countries themselves: there is still no sign from Athens or from Lisbon that they have adopted a new way of looking at things and will radically restructure their public finances. We are seeing emergency measures in Greece, but there is no discussion of what sustainable finances look like. As long as Greece and Portugal remain in the euro, and as long as the euro zone resists institutionalised fiscal transfers, sustainable will mean stingy. Tax collections will have to increase, social benefits will have to decrease, and public infrastructure will have to be sold off to private corporations. What little is left will have to go into regulating the private companies providing previously public services, if anyone is capable. The bottom line is: more for less and a loss of public control over the necessities of life. If I were 20 and Greek, and the country continued down this path, I would leave, period.

The second set of problems lies with Europe itself and the way it takes decisions. The response to the Greek crisis in particular has been a series of talks between France and Germany, long periods of German absence from discussions intended to heighten the sense of desperation by others, and German reluctance to spend much of anything. Of all the options available to it, Europe seems incapable of forcing real policy change in targeted countries, incapable of  kicking a country out of the euro, and incapable of agreeing on the fiscal transfers required to keep a country inside. Something has to give, and there will be changes yet to come.

The third set of problems is one that Germany seems intuitively aware of, and if so, is entirely right about: that if they continue throwing money at the countries that are now in trouble, they will themselves be pulled under water. German banks have been worried about the impact that a Greek default would have on their balance books (as have been French and British banks), but the other side of the coin is that ratings agencies have already started to warn that the credit ratings of Europe's more solvent countries would eventually be at risk if the problems in Europe's south are not solved. This is the reason why the European declaration stated time and again that under no circumstances would the arrangements be extended beyond Greece, and that everyone would strictly adhere to the budget and debt criteria. The word 'strictly' was used a lot.

Given all of this, there has been a lot of money spent, but it isn't by far enough to solve the euro zone's problems. The war will continue. Until Europe gets off the pot and does something real.