Germany and Greece flirt with mutual assured destruction

by Ambrose Evans-Pritchard
The Telegraph
Posted 11 September 2011

BILD ZETUNG POPULISM HAS PREVAILED. Germany is pushing Greece towards a hard default, risking the uncontrollable chain reaction so long feared by markets. Greece can, if provoked, pull the pin on the European banking system and inflict huge damage on Germany itself. Photo: AP

First we learn from planted leaks that Germany is activating “Plan B”, telling banks and insurance companies to prepare for 50pc haircuts on Greek debt; then that Germany is “studying” options that include Greece’s return to the drachma. German finance minister Wolfgang Schauble has chosen to do this at a moment when the global economy is already flirting with double-dip recession, bank shares are crashing, and global credit strains are testing Lehman levels. The recklessness is breath-taking.

If it is a pressure tactic to force Greece to submit to EU-IMF demands of yet further austerity, it may instead bring mutual assured destruction.

“Whoever thinks that Greece is an easy scapegoat, will find that this eventually turns against them, against the hard core of the eurozone,” said Greek finance minister Evangelos Venizelos. Greece can, if provoked, pull the pin on the European banking system and inflict huge damage on Germany itself, and Greece has certainly been provoked.

Germany’s EU commissioner Günther Oettinger said Europe should send blue helmets to take control of Greek tax collection and liquidate state assets. They had better be well armed. The headlines in the Greek press have been “Unconditional Capitulation”, and “Terrorization of Greeks”, and even “Fourth Reich”.

Mr Schauble said there would be no more money for Athens under the EU-IMF rescue package until the Greeks “do what they agreed to do” and comply with every demand of ‘Troika’ inspectors.

Yet to push Greece over the edge risks instant contagion to Portugal, which has higher levels of total debt, and an equally bad current account deficit near 9pc of GDP, and is just as unable to comply with Germany’s austerity dictates in the long run. From there the chain-reaction into EMU’s soft-core would be fast and furious.

Let us be clear, the chief reason why Greece cannot meet its deficit targets is because the EU has imposed the most violent fiscal deflation ever inflicted on a modern developed economy – 16pc of GDP of net tightening in three years – without offsetting monetary stimulus, debt relief, or devaluation.

This has sent the economy into a self-feeding downward spiral, crushing tax revenues. The policy is obscurantist, a replay of the Gold Standard in 1931. It has self-evidently failed. As the Greek parliament said, the debt dynamic is “out of control”. We all know that Greece behaved badly for a decade. The time for tough love was long ago, when the mistakes were made and all sides were seduced by the allure of EMU.

Even if the Papandreou government met every Troika demand at this point, it would not make any material difference. Greek citizens already understand this, and they understand that EU loan packages are merely being recycled to northern banks. Instead of recognizing the collective EU failure at every stage of this debacle, the creditor powers are taking out their fury on what is now a victim.

We have never been so close to EMU rupture. Friday’s resignation of Jurgen Stark at the European Central Bank is literally a kataklysmos, a German vote of no confidence in EMU management. Dr Stark is not just an ECB board member. He is the keeper of the Bundesbank’s monetary flame.

The vehemence of his protest against ECB bond purchases confirm what markets suspect: that the ECB cannot shore up Italian and Spanish debt markets for long without losing Germany. “I look at what is happening in EMU and the words that spring to mind are total and utter disaster”, said Andrew Roberts, credit chief at RBS. He thinks German Bund yields could break below 1pc in the flight to safety.

Citigroup and UBS both issued reports last week on the mechanics of EMU break-up, both concluding with touching faith that EU leaders cannot and will not allow it to happen.

“The euro should not exist,” said Stephane Deo from UBS. It creates more costs than benefits for the weak. Its “dysfunctional nature” was disguised by a credit bubble. The error is now “painfully obvious”. Yet Mr Deo warns that EMU exit would not be as painless as departing the ERM in 1992. Monetary unions do not break up lightly. The denouement usually entails civil disorder, even war.

If a debtor such as Greece left, the new drachma would crash by 60pc. Its banks would collapse. Switching sovereign debt into drachma would be a default, shutting the country out of capital markets. Exit would cost 50pc of GDP in the first year. If creditors such as Germany left, the new mark would jump 40pc to 50pc against the rump euro. Banks would face big haircuts on euro debt, and would need recapitalization. Trade would shrink by a fifth. Exit would cost 20pc to 25pc of GDP. UBS concludes that the only course is a “fiscal confederation”, a la Suisse.

Bailout rebellion in Germany

by Wolf Richter – www.testosteronepit.com
Posted September 7th, 2011

“WE’RE ON THE WAY TO A WORLDWIDE FINANCIAL DICTATORSHIP governed by bankers,” said Peter Gauweiler, German Bundestags Representative (CSU), in an interview published Monday in the Welt Online. “We don’t support Greece,” he said. “We support 25 or 30 worldwide investment banks and their insane activities.”

Successful lawyer, he fought back in the German Supreme Court, claiming that the money-printing and bailout operations by the European Central Bank (ECB), and Germany’s role in them, violate the constitution. The court’s decision is expected on Wednesday. The foundation of the euro was the Stability Pact, he said—a contract that now has been broken. And he wonders if “the euro can still function as a value-retaining currency.”

This, just as Wolfgang Schäuble, Finance Minister, has been dealt a defeat of sorts by his own governing coalition during the trial vote for the expansion of the current European Financial Stability Facility (EFSF) whose purpose it is to bail out an ever lager circle of debt-sinner countries. 25 members of his coalition voted against it or abstained. The actual vote is scheduled for September 29.

And the numbers are ugly. 89% of the population oppose the expansion of the EFSF and doubt that ever larger amounts will solve the debt crisis, according to a recent poll. 80% demand that parliament must agree each time before Germany can take on additional burdens and risks. And 85% demand that financial institutions, rather than taxpayer, take the first losses when a country defaults. What galls them is that they have to shoulder these risks and burdens so that debt-sinner countries can borrow even more at lower interest rates.

“The ECB’s bond buying program was a mistake,” laments Hans-Werner Sinn, President of Ifo Institute for Economic Research. Opening the money spigot removed the incentives for the affected countries to undergo needed budgetary and structural reforms. He holds up as proof Italy’s currents effort to weasel out of budget cuts and tax increases and Greece’s resistance to reform.

“It would be a lot cheaper for German taxpayers” if Greece exited the eurozone, said Hermann Otto Solms, financial expert of the FDP, the government’s coalition partner, in an interview in the Südwest Presse. Greece has violated repeatedly the condition for the aid package, and “in the long run, that cannot be permitted.” Otherwise, the system of mutual support will lose credibility, and other countries will be tempted to manage their own budgets at the expense of stronger countries. Of course, Greece’s debt would have to be restructured, and banks may have to be bailed out again, just like after Lehman, but it would cost less than endless support. Greece would also be better off. It would get rid of much of its debt. And drastic devaluation of its new currency would make it competitive in a globalized economy.

Meanwhile, Italy is backpedaling on its “blood-and-tears plan” to raise taxes and cut its budget by €45 billion. In Spain and Italy, people are demonstrating in the streets, and strikers are paralyzing Italian air traffic. Austerity plans aren’t popular. It’s easier to borrow and print than to get your financial house in order.

This is exactly what Jens Weidmann, president of the Bundesbank, warns about in an interview published in the Börsen-Zeitung. Euro-Bonds would undermine the incentives for heavily indebted countries to build solid budget policies, he said. “The jump into common liability without limits on national sovereignty could unravel the institutional framework of the Monetary Union.”

Already in August, the Bundesbank had lashed out fiercely at its omnipotent sister, the ECB, for its decision to print money and buy sovereign bonds of debt-sinner countries. These attacks put the Bundesbank on collision course with export-oriented industrialists and financial institutions that have been the primary beneficiaries of its neighbors’ borrowing binge, something Germans tend to forget in the heat of the battle. But it’s not just Germans.

“Let the euro die its natural death,” said Marine Le Pen (article in English) in her populist manner. The media-savvy and vocal president of the Front National of France is one of the top contenders in the 2012 presidential election. Populists in other European countries are gaining ground as well. People have always perceived the euro as an invention by the elite for the elite, and many of the current problems in Europe are blamed on it. So whether or not the eurozone will survive in its current form and with its current members is at least partially a question of its ability to run counter the will of its people, and get away with it.