Eurozone Ship Is On The Course That Was Set For It: Heading For The Rocks

[Realistbear]

http://www.telegraph.co.uk/finance/comment/rogerbootle/8441470/Eurozone-ship-is-on-the-course-that-was-set-for-it-heading-for-the-rocks.html

Eurozone ship is on the course that was set for it: heading for the rocks

Two events last week saw the crisis in the eurozone deepen - the Portuguese bail-out and the ECB's interest rate increase. But much more is brewing.

Everyone is now focused on government debt as the nub of the problem. And the numbers are shocking.

The debt to GDP ratio is over 140pc in Greece. Indeed, it is all but impossible for Greece to adjust through fiscal austerity

. It is caught in a debt trap from which the only escapes are inflation (which is impossible if you are still in the euro), default, or being bailed out.

As with most things "euro", the bail-outs provided to Greece and Ireland – and now on offer to Portugal – aren't quite what they seem. They are high interest loans. If this is any sort of remedy, it is for a different malady

.

The peripheral countries' fundamental problem is not illiquidity but insolvency. At some point, Greece will have to default on its debts or be the beneficiary of an outright gift from its creditors – or leave the euro.

And the debt problem is pretty serious elsewhere too. In Italy, the debt to GDP ratio is about 120pc. Italy has not really featured in the crisis so far, partly because its government debt is largely held by Italians. Yet if confidence in the Italian government's ability to service its debt were to crumble, then its people and institutions would not sit there passively out of a sense of public duty.

Debt is one facet of the euro's crisis. There are three others.

The first is competitiveness. Since the formation of the euro, German unit labour costs have barely risen, but in the peripheral countries they have surged ahead

– by about 30pc in Greece, Spain and Portugal. The result is that the peripheral countries are uncompetitive both inside and outside the eurozone, thereby shutting off strong exports as a route to recovery.

The second factor is the property market. In Ireland and Spain, house prices were driven up in a major property bubble. Although prices have since fallen a long way, the prospect is for further large drops.

The third factor is the weakness of the banks

. Interestingly, some of the most serious problems lurk in that paragon of financial orthodoxy, Germany, where the state-owned regional banks have taken on oodles of dodgy assets.

The euro is supposedly cemented by unshakeable political will. Yet not only has the eurozone failed to establish workable union-wide political institutions, but the political situation in member countries has turned ugly.

Portugal and Belgium are without governments

. Opposition to austerity is building in Greece and Ireland. President Sarkozy of France faces an uphill battle to be re-elected, not least against a revived, and euro-sceptic, National Front. In Germany, after recent electoral losses, Angela Merkel is in a weak position.

Even so, the medicine being dished out to the afflicted countries is a dose of German austerity. The idea is that fiscal deficits can be reduced by expenditure cuts and tax rises while competitiveness can be restored through reducing costs and prices.

But given the multi-faceted nature of the euro's problems,

this mixture of depression and deflation is extremely dangerous

. Because it reduces aggregate demand, fiscal austerity will intensify the downward pressures on house prices and undermine the quality of banks' assets.

Admittedly, if costs and prices fall, then competitiveness can gradually be regained. But falling prices increase the real value of debt – both public and private

– and make the debt crisis worse. Most of this mess was envisaged by the critics of monetary union when the single currency was established but the euro-elite just ploughed on.

The single currency was going to bring convergence between member countries. In fact, several members have diverged.

It was going to lead to an upsurge of growth. In fact, there has been no improvement in underlying economic performance and the eurozone has been clobbered by the global financial crisis.

The private sector was assumed to be well behaved and the banks sober and responsible. In fact, the euro led to a mega-property boom which has left an already shaky banking system distinctly vulnerable.

What the eurozone needs now is sustained, strong economic growth. Yet this is a realistic prospect only for Germany and its immediate satellites. By contrast, the peripheral countries face years of depression.

Predictably, the remedy offered by the politicians is an alphabet soup of support mechanisms, all beginning with the magical letter E, and more of the balm that supposedly overcomes all ills, namely political will.

In other words: don't panic; it will be all right on the night.

It won't. The eurozone is heading for the rocks.

Bail out by the Fed on the horizon? Or...................................?

Good thing our £5TR of debt is not causing us any probelms as long as the banksters keep the plates spinning to skim off bonuses.

[newjez]

The Germans will drop the Euro when PIGS fly!

Seriously though - how will this end? It would probably be cleaner for Germany to drop and and let the Euro slide. Get it all over in one hit.

If we have Greece/Portugal/Ireland/Spain/Belgium/Italy all umming and arrrrrhing, it will paly havoc with the markets.

[interestrateripoff]

The Germans will drop the Euro when PIGS fly!

Seriously though - how will this end? It would probably be cleaner for Germany to drop and and let the Euro slide. Get it all over in one hit.

If we have Greece/Portugal/Ireland/Spain/Belgium/Italy all umming and arrrrrhing, it will paly havoc with the markets.

The end will be very very messy. Any hint of the Germans leaving you will have the mother of all bank runs from the PIIGS as capital flows from them into German banks.

If the PIIGS exit you'll have the mother of all bank runs as PIIGS capital heads towards German and other countries staying in the Euro.

The only way to get a clean break is to shut down the financial system to stop the bank runs. Which of course will create mass panic and probably result in a bank run within the PIIGS.

I'm starting to feel that the end will result in a bank run of some nature.

[thod]

Euro's anyone?

Yes please. Just so long as they are held in German banks. The sudden and rapid appreciation of the mark will make a fat profit.

[mattyfc]

Anyone interested to see what effect the ECB rate rise is having on the Spanish Property market should read this:

http://www.idealista.com/news/archivo/2011/04/07/0313095-casi-1-000-viviendas-al-dia-bajaron-de-precio-en-marzo-nuevo-record-graficos

Translated:

http://translate.google.com/translate?hl=en&sl=auto&tl=en&u=http%3A%2F%2Fwww.idealista.com%2Fnews%2Farchivo%2F2011%2F04%2F07%2F0313095-casi-1-000-viviendas-al-dia-bajaron-de-precio-en-marzo-nuevo-record-graficos

Looks to me like big trouble ahead. The € strengthening 20%+ in the last 8 months and the oil price 40% in the last 4 will not exactly help either.

This is why I don't think we will see a rate rise until August.

[Injin]

They are all just holding on because each country doesn't want to be the one that breaks the euros back.

In any event, it's spain or italy next up and then it's over anyway and all the members who put on a dog and pony show can point fingers and blame them for what comes next.

[Ruffneck]

We are close to another euro crisis , i'll grab the popcorn and hope for a happier ending this time (IE complete breakup of the EURO)

[interestrateripoff]

http://www.guardian.co.uk/business/2011/apr/11/economics-on-monday-eurozone-bailouts-single-currency

........

The second development is that the financial markets are doing the debt sums for countries on the periphery and coming up with some worrying answers. Put simply, a country's national debt will rise if the interest rates it is paying to borrow are higher than the increase in nominal national output. If interest rates are higher than nominal GDP, the only way to prevent the debt level rising is to run a surplus on its primary budget, which excludes interest payments.

The weak countries have ceded control over interest rates to the ECB and cannot tweak their macro-economic policies to generate the higher inflation that would boost nominal national output. They therefore have to boost their real growth rates, or impose even more stringent austerity in order to run a primary budget surplus.

The first option looks impossible for economic reasons; the second looks challenging politically. Financial markets are starting to send a clear message: the debt dynamics of certain eurozone countries are unsustainable. And the lesson from Britain on Black Wednesday in 1992 is that if a strategy is unsustainable, it is not sustained. Whatever policymakers might say or think.

Interesting piece here. Especially the end, the Euro in it's current form seems more and more unsustainable. The PIIGS appear on a downward spiral with no way out.

Although to be honest running a primary surplus doesn't help if your interest payments are higher than the surplus. Your overall debt exposure will still slowly be increasing forcing even greater cuts.

[Ruffneck]

George Soros and the other financial elite are probably discussing this right now at 'Bretton Woods II'.

What else would they be talking about? returning to a gold standard?

Edited April 11, 2011 by Ruffneck

[LiveAndLetBuy]

The end will be very very messy. Any hint of the Germans leaving you will have the mother of all bank runs from the PIIGS as capital flows from them into German banks.

...or any non-euro account for that matter

If the PIIGS exit you'll have the mother of all bank runs as PIIGS capital heads towards German and other countries staying in the Euro.

The only way to get a clean break is to shut down the financial system to stop the bank runs. Which of course will create mass panic and probably result in a bank run within the PIIGS.

I'm starting to feel that the end will result in a bank run of some nature.

Banks runs really are not an option, there really is no way out of the euro. Looks like it could be a good time for those of us in Spain to start learning German.

[General Congreve]

The end will be very very messy. Any hint of the Germans leaving you will have the mother of all bank runs from the PIIGS as capital flows from them into German banks.

If the PIIGS exit you'll have the mother of all bank runs as PIIGS capital heads towards German and other countries staying in the Euro.

The only way to get a clean break is to shut down the financial system to stop the bank runs. Which of course will create mass panic and probably result in a bank run within the PIIGS.

I'm starting to feel that the end will result in a bank run of some nature.

Yep, the whole scenario is looking more and more like it'll end like Rollover (1981):

http://www.youtube.com/watch?v=6butfe1f9Hg

"We're dumping everything... Bullion, grab what you can get!"