Thursday, November 24, 2011

It's High Noon and a lone Merkel faces off against a horde of armed investors

The Financial Times has a very good article, which states Chancellor Merkel's position on the 'eurozone crisis' very clearly: It needs a better disciplined, closer fiscal union with penalities for those who step over agreed lines, and not a quick fix of having Germany carry the burden of the bad debt of the weaker countries.

We must unite ...  or else
When Angela Merkel, the German chancellor, says there are no quick fixes that will resolve the eurozone crisis, she means it.

Instead, she has set her heart on a far more ambitious goal: to drive the 17 European partners that share the euro as a common currency towards a fiscal union. It will take many months, if not years.

Ms Merkel remains adamant that short-term “financial” solutions – such as introducing jointly guaranteed “Eurobonds”, or urging the European Central Bank to intervene massively in sovereign bond markets – will not solve the fundamental problem of excessive debt in the eurozone that has undermined the trust of investors.

“These are political problems that require a political solution,” she said this week. It is a “step-by-step” approach that will require change in the European Union treaties, but she is convinced it is the only way to restore confidence in the markets....

By fiscal union, she means ever closer co-ordination, and direct supervision, of national economic and budgetary policies in the eurozone. She wants debt and deficit limits enforceable in the European Court of Justice. And she wants a European Commissioner who will be a sort of super-finance minister, with powers to demand changes in national budgets if they break the rules, and to impose automatic penalties if they do not fall in line.
There we have it.

The Iron Angel wants to exert Teutonic discipline on the wayward peripheries of the Eurozone, so that all 17 members become as careful about their finances as Germany has been.

Will she achieve this greater fiscal union? She is a tough person, with clear ideas about the nature of the problem, its scope, and methods to solve it.

The managers of the financial organizations who invest in government bonds would prefer a quick solution, which amounts to Germany guaranteeing the debt of the weaker sisters.

As for Merkel, she's not playing that game:
Would she accept Eurobonds in return for EU treaty change? “It is not a question of give and take. It is about a big step towards fiscal union,” she insisted. To introduce joint Eurobonds first would send “a completely wrong signal.”
At least not for now.

The time is high noon, according to the financial investors, the sun is beating down, dust is stirring, and a lone gunman faces a horde of armed investors.

I would not bet against Merkel.

She has more power to order investments in government bonds than the financial investors have given thought to. One way is to order any financial institution in the Eurozone to invest a certain portion of their funds in government bonds of Eurozone members. Another is to levy higher taxes on Eurozone institutions (bypassing David Cameron's veto rights through a side-deal between the 17 Eurozone members – it's amazing what you can do with side-deals when the will is there!)
And her best weapon? A slow, steady step by step approach to the euro crisis.


  1. "Ah! I've been shot! I'm bleeding! I need a blood transfusion quick"

    "Now now, that is only a short term solution and won't address the fundamental problem of you wandering into risky neighborhoods" quoth Dr. Merkel.

  2. She's more likely to say: "Let's cut off your shot arm, and you will be OK."

  3. "The Iron Angel wants to exert Teutonic discipline on the wayward peripheries of the Eurozone, so that all 17 members become as careful about their finances as Germany has been."

    For most of the last decade, Italy, Spain and Ireland have run surpluses and have seen their yields skyrocket. Germany, meanwhile, has run deficits the entire time and has seen its yields drop significantly.

    The notion that European governments spent their way in trouble is absurd.

    What happened was this. European banks bet big on the US real estate market. The scale of this involvement is not often appreciated because the lending was made by branches inside the US and so do not show up on the capital accounts. The US counts such branches as US banks.

    The popping of the US real estate market and subsequent popping of real estate bubbles in Ireland and Spain meant that European banks were severally under capitalized.

    Various governments racked up massive debts bailing out the banks. Ireland's debt to GDP literally doubled overnight. The scale of the bank bailouts coupled with a drop in tax revenues and increase in unemployment benefits left various European governments with large fiscal deficits. Germany forced deflationary austerity on various countries. This made the situation all the worse. After the first round of austerity cuts, the Greek economy shrank by 4%, unemployment went from 10% to 16% and the budget deficit grew by 8%. Greece has since all but defaulted in everything but name. The owners of that debt, particularly Italian banks took a big hit. Investors started to worry about contagion. The ECB failed to intervene and Italian yields skyrocketed. All of sudden a country that was running a surplus looks like it will default. Investors started looking at France, whose banks own half a trillion in Italy debt. The spreads between France and Germany widened.

    Meanwhile, the US and Britain have massively increased the money supply with no sign of inflation in sight. Furthermore, US and British yields are at all time lows.

    Merkel and company are idiots


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