The Great Debate UK

Hollande’s programme marks return of the Ancien Régime

By Laurence Copeland. The opinions expressed are his own.

Seeing the dewy-eyed kids at the post-election celebrations in Paris, I couldn’t help thinking how crazy it all was. The youngsters were plainly convinced they had a president to take their country forward into the new dawn -  after all, he campaigned under the slogan  “Le changement, c’est maintenant”. In reality, Francois Hollande’s programme is unambiguously regressive, with its stop-the-world-we-want-to-get-off determination to go in the opposite direction to every other country, its refusal to countenance any erosion of the country’s ruinously expensive welfare state and its complacent confidence that there is nothing to stop France carrying on as before. What better place to greet the return of the Ancien Régime than the Place de la Bastille?

Of course, the new President promises that he is going to balance the budget in 2017 with the familiar prayer of tax-and-spend governments the world over: “Oh Lord, make me solvent! – but not yet…” Now, even allowing for the fact that France’s deficit is only 5 percent of GDP, it still means he is going to keep on borrowing until the national debt is more or less as large as GDP. (Remember: a balanced budget means no need for more loans, so the national debt is constant. To start paying off its debts, a country needs a surplus, something France has not managed for more than forty years).

Then, of course, the biggest question of all: how on earth is this fiscal miracle of a balanced budget going to be achieved, given the raft of spending commitments which so delighted Socialist voters? It’s rather like listening to someone promising to lose weight while he tucks into a large plate of chips.

However things work out, you can be sure that the burden of paying for France’s public sector will not be borne entirely by today’s taxpayers, given that France is already one of the most heavily taxed countries in the Western world and that a 75 percent tax on the super-rich will probably raise very little revenue (at least for France – it may end up raising tax revenue for Britain, of course, if the rich move to London).

More likely, France will push its borrowing to the limit, so that, unless it actually defaults a la grecque, the debt will have to be repaid by the next generation or two, in other words by the very same youngsters who cheered themselves hoarse in the Place de la Bastille on Sunday evening.

How will they pay if they don’t have jobs? That’s what they really want – or so we are told.

Rating agencies as powerful as ever

By Kathleen Brooks. The opinions expressed are her own.

Some people assumed that after the debacle over the 2008 mortgage-backed security crisis in the U.S., the credit rating agencies would be discredited. However, here we are three years later and the focus is still on the same rating agencies, waiting with bated breath to see whether they move the ratings of some of the world’s most important economies.

Within the last six months rating agencies have played a big part in shaping the direction of financial markets. First, there was Standard & Poor’s downgrading of the U.S. at the start of August, which caused a wave of risk aversion and turmoil on financial markets. Europe has also been the focus of concern.

Italy has seen its credit rating slashed to the lowest A rating you can have, while new kid on the block rating agency Egan Jones has gone one step further and on Monday cut Italy’s rating to BB from BB+. Belgium has also been cut and rumours are spreading that France isn’t going to keep its coveted triple A status for much longer.

Far from drift into the background, the focus has been on the diminishing number of countries rated triple A in the western world and what this means for borrowing costs. France has also been under the rating agencies’ microscope. It is at risk of losing its triple A credit rating due to its high public sector debt level combined with a sizeable deficit, also Paris has been slow to take steps to try and bring public sector finances under control. A false statement that France had been downgraded by Standard & Poor’s in October caused French bond yields to surge and it also enraged the French government who threatened to take steps to ban the rating agencies from commenting on France again.

But in recent months there has been no smoke without fire and newspaper reports this week suggest that S&P is days away from stripping France of its top rating due to the slowdown in global growth and the impact this will have on French tax receipts. This couldn’t come at a worse time for Europe as France is integral to the European Financial Stability Facility (EFSF) – Europe’s rescue fund, which relies on France and Germany’s triple A status to keep its own top rating. Thus if France is stripped of its triple A this will have ripple effects on the EFSF fund and could make bailing out Europe’s troubled members more expensive, thus aggravating the debt crisis even more.

There were rumours that France was meant to be downgraded last week along with Belgium; however this was scrapped at the last minute. This has set the market rumour mill into over-drive with speculation building that the EU high command could have had something to do with the delay.

from The Great Debate:

How to prevent a depression

By Nouriel Roubini The opinions expressed are his own.

AMSTERDAM – The latest economic data suggests that recession is returning to most advanced economies, with financial markets now reaching levels of stress unseen since the collapse of Lehman Brothers in 2008. The risks of an economic and financial crisis even worse than the previous one – now involving not just the private sector, but also near-insolvent sovereigns – are significant. So, what can be done to minimize the fallout of another economic contraction and prevent a deeper depression and financial meltdown?

First, we must accept that austerity measures, necessary to avoid a fiscal train wreck, have recessionary effects on output. So, if countries in the eurozone’s periphery are forced to undertake fiscal austerity, countries able to provide short-term stimulus should do so and postpone their own austerity efforts. These countries include the United States, the United Kingdom, Germany, the core of the eurozone, and Japan. Infrastructure banks that finance needed public infrastructure should be created as well.

Second, while monetary policy has limited impact when the problems are excessive debt and insolvency rather than illiquidity, credit easing, rather than just quantitative easing, can be helpful. The European Central Bank should reverse its mistaken decision to hike interest rates. More monetary and credit easing is also required for the US Federal Reserve, the Bank of Japan, the Bank of England, and the Swiss National Bank. Inflation will soon be the last problem that central banks will fear, as renewed slack in goods, labor, real estate, and commodity markets feeds disinflationary pressures.

Third, to restore credit growth, eurozone banks and banking systems that are under-capitalized should be strengthened with public financing in a European Union-wide program. To avoid an additional credit crunch as banks deleverage, banks should be given some short-term forbearance on capital and liquidity requirements. Also, since the US and EU financial systems remain unlikely to provide credit to small and medium-size enterprises, direct government provision of credit to solvent but illiquid SMEs is essential.

Fourth, large-scale liquidity provision for solvent governments is necessary to avoid a spike in spreads and loss of market access that would turn illiquidity into insolvency. Even with policy changes, it takes time for governments to restore their credibility. Until then, markets will keep pressure on sovereign spreads, making a self-fulfilling crisis likely.

Today, Spain and Italy are at risk of losing market access. Official resources need to be tripled – through a larger European Financial Stability Facility (EFSF), Eurobonds, or massive ECB action – to avoid a disastrous run on these sovereigns.

from The Great Debate:

Does the euro have a future?

By George Soros The opinions expressed are his own.

The euro crisis is a direct consequence of the crash of 2008. When Lehman Brothers failed, the entire financial system started to collapse and had to be put on artificial life support. This took the form of substituting the sovereign credit of governments for the bank and other credit that had collapsed. At a memorable meeting of European finance ministers in November 2008, they guaranteed that no other financial institutions that are important to the workings of the financial system would be allowed to fail, and their example was followed by the United States.

Angela Merkel then declared that the guarantee should be exercised by each European state individually, not by the European Union or the eurozone acting as a whole. This sowed the seeds of the euro crisis because it revealed and activated a hidden weakness in the construction of the euro: the lack of a common treasury. The crisis itself erupted more than a year later, in 2010.

There is some similarity between the euro crisis and the subprime crisis that caused the crash of 2008. In each case a supposedly riskless asset—collateralized debt obligations (CDOs), based largely on mortgages, in 2008, and European government bonds now—lost some or all of their value.

Unfortunately the euro crisis is more intractable. In 2008 the U.S. financial authorities that were needed to respond to the crisis were in place; at present in the eurozone one of these authorities, the common treasury, has yet to be brought into existence. This requires a political process involving a number of sovereign states. That is what has made the problem so severe. The political will to create a common European treasury was absent in the first place; and since the time when the euro was created the political cohesion of the European Union has greatly deteriorated. As a result there is no clearly visible solution to the euro crisis. In its absence the authorities have been trying to buy time.

In an ordinary financial crisis this tactic works: with the passage of time the panic subsides and confidence returns. But in this case time has been working against the authorities. Since the political will is missing, the problems continue to grow larger while the politics are also becoming more poisonous.

It takes a crisis to make the politically impossible possible. Under the pressure of a financial crisis the authorities take whatever steps are necessary to hold the system together, but they only do the minimum and that is soon perceived by the financial markets as inadequate. That is how one crisis leads to another. So Europe is condemned to a seemingly unending series of crises. Measures that would have worked if they had they been adopted earlier turn out to be inadequate by the time they become politically possible. This is the key to understanding the euro crisis.

from Breakingviews:

The way to end the Greek farce

By Hugo Dixon The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

The Greek crisis is fast descending into farce. The position of Germany, the euro zone’s main lender, is increasingly absurd. It is adamant that there will be no restructuring of Greek debt -- at least, until 2013. And yet it is equally insistent that Athens' private-sector creditors should contribute up to 30 billion euros to a new, 120 billion euro bailout. That would effectively amount to a half-cocked restructuring.

German Chancellor Angela Merkel’s inconsistencies seem based on her view that a sovereign restructuring won't happen before 2013 just because she said it won't. But her conflicting demands are becoming virtually impossible to reconcile. The ratings agencies are threatening to say that Greece has defaulted if there's so much as a whiff of arm-twisting in the supposed “voluntary” rollover.

While the opinions of the agencies wouldn't mean that Athens had actually defaulted -- they are just opinions, after all -- the European Central Bank is acting as if their thumbs-down would open the gates of hell. To show it really means business, the ECB is threatening in such a scenario to pull the plug on Greek banks, something which really would cause havoc. There’s clearly an element of bluffing on the part of the ECB -- but it is becoming more transparent by the day, to the point of absurdity.

It's not too late to end this charade. Athens is now funded until early next year, which buys a little time. Europe should use the summer months to restructure Greek debt properly and put in place measures to minimize contagion elsewhere.

A sensible Greek restructuring would probably involve slashing its debts by around half -- provided it sticks with a medium-term program to cut its fiscal deficit, privatize assets and reform its corrupt public sector. Athens wouldn't just get debt relief. It would also receive funding from the euro zone and the International Monetary Fund, albeit not as much as currently contemplated because private-sector creditors would be fully, and not partially bailed in.

To minimize contagion, two things would be needed. First, many European banks would have to be stuffed with much more capital than is likely to be contemplated under the stress tests that Europe is just about to publish. The key is to ensure that markets have confidence in banks even after they have taken a hit from a Greek default. Second, the ECB's role as a lender of last resort to weak banks in weak countries would need to be reinforced.

from Breakingviews:

Letter to the Greeks

By Hugo Dixon The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Dear Greeks, The anger you feel about your plight is understandable. You are staring at several unpalatable alternatives, all of which will involve big cuts in living standards for years to come. But the options you face are not all equally bad. You must avoid an emotional reaction that leaves you in an even worse state -- and you must ostracise those who resort to violence.

One option is to persuade your politicians to say “no” (or “ohi”) to the euro zone/International Monetary Fund austerity plan. The scheme is not perfect. But rejecting it out of hand would be childish. If there is no agreed plan, you will get no money. The consequence isn’t just that the government would default on the loans it took out on your behalf. There would be a run on your banks and an even deeper recession. You would probably also lose your remaining friends in Europe who would consider you spoiled brats.

That’s not to say you should repay all your debts. Even with Herculean efforts, that won’t be possible. But you can probably negotiate an orderly default some time in the next year. An orderly default would be one where your debts were cut, say in half, but in the context of an agreed euro zone/IMF programme which provided you with enough money to survive until you are healthier.

You might ask why you can’t have an “orderly” default now. Wouldn’t that be better than waiting? The answer would be “yes” if an orderly default could be agreed now. Unfortunately, the rest of Europe isn’t yet ready for your default. So they won’t agree on one; and that, by definition, means a default now would be disorderly.

Fast forward a few months, though, and the rest of Europe might be in a better shape to withstand a Greek debt restructuring, particularly if they’ve used the time well and shored up their banks. You, too, might be in a better position to negotiate a new package -- provided you recapitalise your own banks and squeeze your budget deficit so you are less dependent on external money.

There’s no denying this course of action would be painful. Your challenge isn’t just to cut the deficit but also to restore your economic competitiveness. That means further cuts in living standards.