The Reasoned Review

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More EU/IMF Confusion

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The Times gets credit for scooping the new plans for Germany and France to help Greece after all. I guess all those big bad threats to leave Greece to the mercy of the IMF weren’t really serious.

In one sense, it really doesn’t matter whether Germany or the IMF ends up on the hook for Greece’s bailout (which is supposed to cost 22 billion Euros, or something like $38 billion). The point is that Greece is not going to be the last country who needs this kind of assistance. As I mentioned previously, Britain, France, Portugal, Ireland, Belgium, Italy, and Spain all have debt crises looming on the horizon. Whoever cleans up after Greece will likely end up mopping up all of Europe. So it’s natural that neither Germany or the IMF want to set the precedent alone.

Again, I cannot stress Wall Street’s complicity in this affair. They were the ones selling Greece absurd amounts of debt on one hand and then buying credit default swaps against that debt on the other. That’s bandit behavior, and they shouldn’t be allowed to walk away from this colossal imbroglio they created without any repercussions. I think it’s clear that Wall Street deserves to pay for some of this mess, if not all of it.

But herein lies the paradox! If Wall Street pays up to bail out Greece, it’s really the US doing it, since all five of the major bank-holding companies are still on TARP life support. So it’s really a no-win situation, unless you happen to be a major bank-holding company on government life support. Then you win.

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Written by pavanvan

March 25, 2010 at 11:43 pm

Germany Flip-Flops on Greek Bailout

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Well, I certainly didn’t expect this. It looks as though Germany is going to rely on the IMF to bail Greece out should the dreaded moment arrive (hint: it will). This does not bode well for the European Union, and indeed, until now, many thought the only way to preserve the integrity of the Euro would be to treat this Greek crisis as an in-house affair. Resorting to IMF loans would do very little to assure investors that the EU is good for its members’ debt, as this basically signals to the rest of the world that Germany (virtually the only healthy economy left in the EU) is either unwilling or unable to shoulder the entire partnership’s burden.

Remember: France, Britain, Spain, Italy, Portugal, Ireland, and Belgium are all facing debt crises of their own, many just as deep, though not as visible, as that of Greece. Germany’s indication that it will not help Greece is effectively a pre-emptive warning to the rest of these countries that when their own respective economies collapse, not to come banging on Germany’s door. Bloomberg reports today that Greece’s Prime Minister has set a deadline for Germany to bail it out, before it goes to the IMF for help. Germany has already indicated that it’s going to let the IMF solve Greece’s problem, effectively rendering that threat moot.

This is big news for several reasons. With Germany, the last healthy EU economy, refusing to bail Greece out, we may be seeing the end of the European Union as a cohesive economic entity. The Euro has been taking a beating ever since fears of a Greek default arose (it’s down more than 10% since this crisis began), and it’s sure to drop further on today’s news. It is unlikely that Greece will default or be forced out of the economic partnership, but if the IMF gets its fingers into Greece, it will only be a matter of time before the rest of the EU comes to the IMF, arms outstretched. Greece will not be the last European country to undergo a debt crisis, as I hope I have shown.

If Greece accepts IMF help, it will be forced into far worse “austerity measures” than anything Germany would have imposed. “Austerity” is generally a euphemism for cutting off social services and indiscriminately firing middle class workers while the rich make off like bandits. Already these measures have caused massive riots and general strikes in Greece, and these are sure to continue if the IMF gets its way.

As always, one can draw a straight line between economic collapse and Wall Street. Many sources have already reported on how Wall Street helped Greece hide its debt for years, and, in fact, encouraged them to take on more debt via “securitized” trades.

But that isn’t all. Wall Street’s “innovative financial instruments” – its Collateralized Debt Obligations and other over-the-counter derivatives – proliferated throughout the European economy, and are at the heart of the myriad debt crises. They made billions selling Europe these worthless junk bonds, and now they’re slowly walking away, whistling, as though they had nothing to do with it. Greece should be demanding massive reparations for the unprecedented fraud of which they, and the rest of the EU, were the victims.

It’s difficult to see where this will end. The IMF bails out Greece instead of Germany – but then what? Portugal, Italy, Spain… then France? What if Britain needs a bailout? Does the IMF have such resources? Are they just going to print the money? Does anyone know what they’re doing?

Paul Krugman Agrees With Me

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Check out his column, in which he makes a similar point to what I made a couple posts down:

Now what? A breakup of the euro is very nearly unthinkable, as a sheer matter of practicality. As Berkeley’s Barry Eichengreen puts it, an attempt to reintroduce a national currency would trigger “the mother of all financial crises.” So the only way out is forward: to make the euro work, Europe needs to move much further toward political union, so that European nations start to function more like American states.

It’s an ugly picture. But it’s important to understand the nature of Europe’s fatal flaw. Yes, some governments were irresponsible; but the fundamental problem was hubris, the arrogant belief that Europe could make a single currency work despite strong reasons to believe that it wasn’t ready.

Written by pavanvan

February 16, 2010 at 6:32 pm

Greek Street

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The Times has a pretty good rundown on Wall Street’s complicity in Greece’s current budget woes. The European Union has rather strict rules on the size of the deficit its member countries are allowed to have; but Greece, it turns out, has been under-reporting its deficit for nearly a decade. I wonder where they learned to cook their books?

The bankers, led by Goldman’s president, Gary D. Cohn, held out a financing instrument that would have pushed debt from Greece’s health care system far into the future, much as when strapped homeowners take out second mortgages to pay off their credit cards.

It had worked before. In 2001, just after Greece was admitted to Europe’s monetary union, Goldman helped the government quietly borrow billions, people familiar with the transaction said. That deal, hidden from public view because it was treated as a currency trade rather than a loan, helped Athens to meet Europe’s deficit rules while continuing to spend beyond its means.

Oh.

We’re going to hear a lot in the coming weeks about Greece’s irresponsibility and how Wall Street callously enabled them like a heroin dealer that profits from a junkie’s weakness. And while these accusations are no doubt true, they miss the real point of the Greek debt story, which has to do with the paradox on which the European Union is founded. In fact, a crisis like this was bound to happen. Greece’s and Wall Street’s malfeasance are inexcusable, and certainly no one should try to absolve them from blame on this, but we have to ask ourselves: how long did Europe expect this partnership to last?

At the heart of the EU’s troubles lie the fundamental disparities between its member economies. Germany, as we all know, is an economic powerhouse, and produces the lion’s share of the EU’s GDP. France does well for itself, as do Austria, Sweden, Switzerland and a host of other countries. But the countries that aren’t doing so well: Greece, yes, but also Italy, Portugal, Ireland, and Spain are all  in a difficult and ultimately insoluble position.

Their economic fortunes entwined with that of the rest of Europe, they find themselves under enormous pressure to report spectacular economic growth. If unable to do so, their troubles extend to the other member countries, and, most importantly, cast aspersions upon the value of their shared currency – the Euro. So the incentive to fudge the numbers is tremendous.

The paradox of “Eurozone” (zone of countries that use the Euro) directly stems from this. Put simply, no country can leave the Eurozone after it joins, and at the same time, every Eurozone member has to post annual growth without fail. The Greek situation is a perfect illustration of this, but the point is that it could have happened (in fact, probably will happen) to several EU countries. Greece just happened to be the scapegoat because it had the biggest debt.

This handy chart from Der Spiegel should nicely demonstrate this point.

Even Germany and France, the so-called “EU powerhouses”, are technically breaking their own debt rules. But why doesn’t Greece just divest itself from the Euro, say it was too hasty in joining, and maybe re-apply for admission in a few years once it gets its economy under control? Well, it could do this  – and likely would, if France and Germany had their say – but such a move would precipitate a run on Greece’s banks, sink its economy, and leave it a European pariah for at least a generation. Think about it: if you had a bank account in a Greek bank in Euros, and the Greek Premier announces one day that your account will be transformed into Greek Drachmas on such-and-such a date, what would you do? Obviously you would liquidate your holdings and invest in some more stable Eurozone country. Germany, perhaps?

But at the same time, Greece’s economic situation is causing near-panic among investors and ravaging the Euro. The Euro’s value has dropped more than 9% in just two months. And therein lies the paradox. By staying in the Eurozone, Greece threatens the whole enterprise. By leaving, it dooms itself to economic collapse.

A recent interview with the EU Central Bank chief economist Jurgen Stark displays the confusion now embroiling the EU. It’s clear that no one knows what to do about this. For the time being, I suppose, Germany or France will have to pony up the cash to bail Greece out, but this does nothing but delay the central problem described above.

Written by pavanvan

February 14, 2010 at 4:02 pm

Greek Debt

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Greece is in a lot of trouble, and as a member of the “eurozone”, its troubles have now become Europe’s. In a sense, we’re getting a grim preview of the sort of future we might have in America with the case of Greece. Like us, Greece spent heavily over the past decade and accumulated a lot of “sovereign debt”. Unlike us, however, Greece is not a military bully – and thus cannot simply print money and force the rest of the world to accept it. Further complicating the issue is Greece’s membership in the European Union. No Euro-using country has ever declared bankruptcy, and analysts are busy falling over themselves to predict what a Greek government default would imply. Some of the most grim predictions entail the break-up of the EU, while the more moderate voices still predict havoc within the eurozone.

If Greece defaults, it seems likely there would be some sort of run on the European banking system, and almost certainly the Greek banking system. But more significantly, this crisis highlights the impossibility of leaving the Eurozone, once you become a full-fledged member. For many countries (notably, the PIIGS – Portugal, Italy, Ireland, Greece and Spain – the slowly growing Eurozone countries) this leads to a catch-22.

One one hand, adopting the Euro means a country can’t combat deflation via the traditional methods. Usually this would be done by revaulating its currency, but since no individual country has control over the Euro (well, maybe Germany does) – this ceases to be an option.

On the other hand, an announcement to leave the Euro (As Tyler notes) would trigger an immediate run on that country’s banks. Nobody wants their bank account in Euros to suddenly transform into a bank account in a less prestigious currency (lira, drachmas, etc.) Once a country gets into the EU, it pretty much has no choice but to stay.

So leaving the Eurozone would doom Greece – and staying in might doom the rest of the EU. What are they doing about it? Well, the Times splashed on its front page today that after weeks of nail-biting vacillation, the EU has finally pledged a “bailout” to Greece. (Under that article, in tiny letters, the headline: “Greek Civil Servants Strike Over Austerity Measures – giving us a taste, I guess, of what that bailout will cost.) But the point is that no one knows how this bailout will actually work.

At the root of Greece’s problems, and the EU’s, lies the vast difference in economic output between members. Though Greece and Germany use the same currency, their economies are vastly different. This naturally leads to over-valuation of the Greek economy, and, I suppose, under-valuation of the German economy.

It looks like Britain made a smart move after all, not adopting the Euro.

Written by pavanvan

February 11, 2010 at 9:34 am

Hyperinflation

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Motley Fool gives us an excellent rundown of the arguments in favor of Dollar hyperinflation next decade.

Give it a read, and get ready to start papering your walls with Ben Franklin’s handsome likeness!

Written by pavanvan

October 5, 2009 at 12:09 am