A path through Europe’s minefield
By George Soros The opinions expressed are his own.
Earlier this week, a group of almost 100 prominent Europeans delivered an open letter to the leaders of all 17 eurozone countries. The letter said, in so many words, what the leaders of Europe now appear to have understood: they cannot go on “kicking the can down the road.” And, just as importantly, they now understand that it is not enough to ensure that governments can finance their debt at reasonable interest rates; they must also address the weakness of Europe’s banking system.
Indeed, Europe’s banking and sovereign-debt problems are mutually self-reinforcing. The decline in government bond prices has exposed the banks’ undercapitalization, while the prospect that governments will have to finance banks’ recapitalization has driven up risk premiums on government bonds. Facing the prospect of having to raise additional capital at a time when their shares are selling at a fraction of book value, banks have a powerful incentive to reduce their balance sheets by withdrawing credit lines and shrinking their loan portfolios.
Europe’s leaders are now contemplating what to do, and their next move will have fateful consequences, either calming the markets or driving them to new extremes. All agree that Greece needs an orderly restructuring, because a disorderly default could cause a eurozone meltdown. But, when it comes to the banks, I am afraid that the eurozone’s leaders are contemplating some inappropriate steps.
Specifically, they are talking about recapitalizing the banking system, rather than guaranteeing it. And they want to do it on a country-by-country basis, rather than on the basis of the eurozone as a whole. There is a good reason for this: Germany does not want to pay for recapitalizing French banks. But, while Chancellor Angela Merkel is justified in insisting on this, it is driving her in the wrong direction.
Let me stake out more precisely the narrow path that would allow Europe to pass through this minefield. The banking system needs to be guaranteed first, and recapitalized later. Governments cannot afford to recapitalize the banks now; it would leave them with insufficient funds to deal with the sovereign-debt problem. It will cost much less to recapitalize the banks after the crisis has abated and both government bonds and bank shares have returned to more normal levels.
Governments can, however, provide a credible guarantee, given their power to tax. A new, legally binding agreement – not a change to the Lisbon Treaty (which would encounter too many hurdles), but a new agreement – will be needed for the eurozone to mobilize that power, and such an accord will take time to negotiate and ratify. But, in the meantime, governments can call upon the European Central Bank, which the eurozone member states already fully guarantee on a pro rata basis.
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.
The 20th century & early 21st showed us that ANY & EVERY system can fail- communism, capitalism, dictatorship, democracy – you name it; and that’s because Mankind has failed these systems and not the other way around. These all-out efforts in the Eurozone and those in the US have been last-ditch ones to perpetuate unsustainable lifestyles. 20th century business ethics depend upon the unspoken rule -one that has only tacit acceptance, but people in general are not willing to openly admit-and that is: for someone to win somewhere somebody has to lose elsewhere, and badly. Mankind has to grow, to evolve, to learn to do business in which there are no losers. For too long we have been thinking within our boundaries, problems “outside” our borders are NEVER “our”problems. THIS is the problem THE crisis which should teach us to think globally, and realize that if there are starving people elsewhere, then it is OUR problem, because one day these problems will be on our doorstep
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.
I remember a friend many years ago telling me a story and it went like this. He was in a meeting with the Tax Office to discuss his outstanding taxes. He owed millions in taxes due to a failed commercial venture. The public servant tax officer at the meeting said to him “listen mate, you are in a lot of trouble unless you pay your taxes by “such and such a date”" and my client responded “As I see it, I am not the one that is in trouble, YOU are the one in trouble, because I have millions of your tax dollars and you need to get that money from me”.
So whilst Europe and the rest of the world, keeps banging on about Greece and whether it should exit the eurozone or not, the reality is that restructuring and an orderly default is required for there to be any hope for Greece to stay in the eurozone and to avoid the meltdown. Allowing Greece to exit the eurozone, apart of the collapse of the banking system and all that that entails with flow on effects to world markets, will also allow the middle east and Asian countries free to invest their billions of surpluses that are itching to be invested in Europe giving these emerging power house economies a foot hold in Europe and access to markets once dominated by the Germans and French. So Germany really needs to find a practical solution fast to this crisis before its euro kingdom collapses and for this to be done, it needs to allow Greece to have a capacity to repay restructured debts. Or is it the case that the Germans and French through the guise of “austerity” are simply stalling for time hoping to acquire as many Greek state assets as possible as a form of foreclosure of sorts, at fire sale prices before the inevitable default and eurozone exit, leaving less for the middle east and eastern investors to scavenge.
Goerge Soros is right in his article, and correct in his analysis of the overall framework Europe should undertake to effiently and effectively control the situations it currently faces.
However, in the framework proposed, there needs to be the oft-mentioned “haircut” by holders of bonds if/when nations default (or “restructure”).
“Haircuts” (or losses, as the rest of the world knows them to be) need to have their image re-inforced as legitimate and natural events in the lifecycle of any form of investment. By doing this, it will centralise thought to solving potential issues in the financial/banking sector first, and separate the cause from the effect. In the article above, this method will also separate the taxpayer from the issues to be confronted by the financial/banking sector.
Europe, so far, has seemed to place cause and effect in the same basket making it too big to handle as a single issue. It needs to impliment a multi-pronged series of separate solutions to solve the current crises (more than one crisis) and effectively re-create a path of stability, solution, and ultimately, growth.
Anyone can play the “blame game” now for current crises, however now is the time for solutions to current issues, and later is the time for accountability.