The naked gun: the smell of fear

With the announced financial plan to save Greece, inquiring minds are already asking whether Europe has put the loaded gun on the table. Somebody is saying that "It’s a deal – and a pretty good one, too".

While the devil again will be in the plan's details and future arrangements, Mr Van Rompuy said "We hope that it will not have to be activated". As a matter of fact the mere existence of the plan forestalls the possibility that Greece might fail to refinance itself in the near term and send a clear message to markets and speculators. Yet the fact that they hope not to activate it, it might mean that it would be a mess should it be activated.

I am not sure if the deal can be construed as special resolutions regime for sovereign default or a leap forward towards greater integration and cooperation. It could be simply a naked gun put on the table to buy time.


I think that the mechanism put in place, particularly regarding its share within the eurozone proportional to the ECB capital share, could be further developed and worth pursuing for a future common issuance of EU bonds. On the other hand, should Greece or other countries need to activate such a mechanism it is likely that those countries involved in the mechanism need to issue bonds to refinance the country in need or default. It's worth repeating that the countries more concerned by the mechanism (27% for Germany and 20% for France, or in the case of Greece's default and if the Greek share were to be excluded, 28% and 21% respectively), are the same countries whose banks (French and German) hold Greek bonds for about 70%.
It means that the mechanism is not actually in place to save Greece but to save French and German banks, main bondholders of Greek sovereign debt, from incurring in losses.

The above circumstances again make the case for the issuance of EU bonds much stronger. At least to simplify this Ponzi scheme where EU governments' money is being reinvested into the scheme to repay previous investors, mainly banks who incidentally in the past were saved by those same governments. In this respect, the plan for Greece indicates some EU countries' smell of fear.

UPDATE of Sunday April 11th: in the the latest Ponzi, somebody is doing God’s work as Leaders of the 16 eurozone nations have agreed to fund up to 30bn euros in emergency loans for debt-hit Greece, if the country wants the cash.
The price of the loans will be fixed using IMF formulas, and be about 5%. Luxembourg Prime Minister Jean-Claude Juncker, speaking for eurozone finance ministers, said there were no elements of subsidy in the loan proposal. "The total amount put up by the eurozone member states for the first year will reach 30bn euros," he said. Mr Juncker added that the financing would be "completed and co-financed" by the International Monetary Fund.
I wonder if the above is the right way to stop the Ponzi game.

Money creation for nothing: or let Greece default

Germany’s central bank – the Deutsche Bundesbank (German for German Federal Bank) – has admitted in writing that banks create credit out of thin air.
There is an interesting debate here and here about this creation of money out of thin air, which means that banks create the means of payment out of nothing.

If banks create credit out of thin air I wonder what the difference is between their money creation and a Ponzi scheme.

I do not see any difference particularly when banks buy governments' bonds (that is they lend money to governments) and governments then intervene to save banks, and central banks continue to lend cheap money to banks accepting governments’ bonds as collateral.

If you run this system cross-border like in the Germany-Greece crisis in the Euro-zone, one could also wonder if we should not stop this creation of money out of thin air and let Greece default (banks and ECB will have to stop the money creation), which means that German and French banks, main Greek bondholders, should take a haircut.

In "normal" financial markets banks should plan for a certain amount of their loans to go bad or their borrowers to fall into bankruptcy. It is a necessary cost of creating principal out of thin air but never issuing enough money for all of the interest to be paid back. There are no "too safe to fail" assets, not even sovereign debt.

On the other hand, loans to Greece (sovereign bonds) have been carrying recently an interest rate more than double the German bond's one or about 3% risk (default) premium. Moreover it is likely that those investors who accepted before lower interest rates on Greek bonds covered it with an insurance or credit default swap.

"Default teaches creditors – and their governments – a lesson, just as it does the debtors: mistakes cost money, and your mistakes are your own". I would add that in the case of European banks, particularly German ones, those mistakes are exactly the same setting up the banks Ponzi Scheme of credit creation in the subprime mortgage market. Banks created money for people who would never pay it back, and they have no choice now but to suffer the consequences of these decisions or hyper inflate the money supply by creating new loans (with higher interest rate requested by the markets) in the hope that it will result in old loans being repaid. The latter again is a Ponzi scheme...Eventually these loans, which the banks count as assets because they were expecting to be paid back, would be simply written off and the money in the Euro-zone would be counted as destroyed.

The bureaucrats' elites of the Euro-area have not been capable so far to give a solution to the Greek crisis, and that's a pity. They rely only on announcement effects and self-fulfilling expectations based on non-existent plans. Yet, this is a good opportunity to stop the money creation for nothing and let Greece orderly default eventually under IMF aegis and as good as it gets (IMF loans would be even far cheaper for Greece than the current market rate or for EU governments in the case of a bail-out).

Update March 23rd, 2010: After reading that State-controlled Hellenic Post Bank (TT) spent nearly 1 billion euros last year to secure its positions against the possible bankruptcy of the Greek government, the case for letting Greece default is much stronger (so to clear all positions in the financial markets and allocate proper haircuts to bond holders and CDS sellers). I then wonder if the fact that TT’s management, which changed after the Socialists took power in October, sold the CDS when the spread was at 235 basis points in December, earning a profit of some 35 million euros is a case of insider trading or simple conflict of interest. For sure, it means that CDS are a kind of gambling but that speculators could be other than foreign bankers.

Parallel lives: or when one is unfit to lead

The text below has been circulating on the Web for weeks, but is dated May 1, 1945.

Written by Elsa Morante, dedicated to Benito Mussolini, is published on Paragone Letteratura .

It's a fitting portrait of another person contemporary to us who has been often judged unfit to lead.

"The head of government is guilty repeatedly during his career of crimes which, in the presence of an honest people, would have deserved condemnation, shame and deprivation of all authority of government.

Why have people tolerated and even applauded these crimes? Some for moral insensitivity, some for cunning, some for self interest and personal gain.

The majority was aware of his criminal activities, but preferred to give her vote to the strong man rather than the right man. Unfortunately the Italian people, if he must choose between duty and personal advantage, while knowing what would be his duty, he always chooses the personal advantage.

So a mediocre man, coarse, vulgar eloquence but easy effect, is a perfect specimen of his contemporaries.

Within an honest people, he would be at most the leader of a modest party with few supporters, a character a bit absurd for his manners, his attitudes, his delusions of grandeur, offensive to the
sense of people because of his bombastic and immodest style.

In Italy he became the head of government. And it is hard to find a more complete Italian example. Admirer of force, venal, corruptible and corrupt Catholic without believing in God, conceited, vain, fake good-natured, family father with many lovers, he uses those whom he despises, he surrounds himself with dishonests, liars, incomptents, profiteers; skilled mime, such to act for a trvial public but, like every mime, without his own character, he always imagine to be the character whom he wants to represent. "

Euro zone stress test: or how PIGS could fly

The Greek sovereign debt crisis is a stress test for the Euro zone. It's not a tragedy. It's an opportunity for the EU to grow and enhance political and fiscal integration. Economists and lawyers suddenly have realized that in the EU treaties, even in the recently approved Lisbon one, there was not a bankruptcy-like resolution regime or an orderly default procedure. In the Treaties excessive sovereign debt is not predictably enforceable against assets beyond sovereign control (Greek debt is mainly in the hands of Germany's and France's banks thus these countries are considering how to refinance it ) although within the Euro zone. Yet there is no redress option when EU members break EU own laws. Greece crisis can only confirm that policy randomness and no ideas are the last best hope for moral hazard and speculation. It does not make sense to set up now a European Monetary Fund with objectives and mandate similar to the original IMF's ones (it would be better the original one to which the EU countries largely contribute). Then funding the EMF with levies on the poorest countries and those not complying with the Stability and Growth Pact (recently all EU countries) is the opposite of what a Robin Hood tax or Pigouvian tax would do. Punishments are not sufficient to produce virtues. Moreover it does not have any added value in terms of integration and fiscal transfers at EU level and it's not an effective recognition that some form of stronger economic governance is needed for the Euro zone. There is a need to have mechanisms for real fiscal transfers also to fund properly the EMF and the EU budget, including the issuance of common EU bonds. I had suggested that Pigouvian taxation (including a financial transaction tax which could be levied on CDS as well as bonds transactions) is the most appropriate, particularly if applied to the finance industry. The EU-wide CO2 tax which may well be implemented very shortly could also be considered for funding the EMF (or even the EU budget).
Polluters, including the finance industry, have to pay, otherwise any amount set in austerity measures and/or penalties of sinful but poorer countries is offset by bankers' sins (greed), mistakes (why banks were investing in Greek bonds without any "due diligence" on the country?) and speculation (naked CDS should be taxed rather than banned but if politicians decide to ban them we will not miss them as costs of having them are probably higher than their benefits which are mainly in private and traders hands).

A stronger case for EU bonds common issuance (no simple roll over)

In previous posts here and here, I made the case for the common issuance of EU bonds and suggested also an effective way to pay the burden (at least the interest part) of such issuance via a financial transaction tax and the possible creation of a EU Monetary Fund.

This idea appears "too simple to be considered".

However yesterday, Belgium's PM Calls For European Debt Agency which would have the task to issue new debt jointly for the eurozone.

Tyler Durden at ZeroHedge.com wishes Europe all the best in the 2010 issuance of its debt.
I contend that the charts that he shows are somewhat self-explanatory and make my case of the common issuance of EU bonds much stronger and it indicates that the market is ready for it.



It's just a matter of further integration in the Eurozone and more coordination of economic policy which would support the EURO idea. As I wrote if the EURO got into troubles you need more euro coordination not less just because economists think that the eurozone is not an optimal currency area. Moreover a common issuance would avoid some sort of competition and beggar thy neighbour policy in EU member states issuance while creating a far more homogeneous and united euro bond market.

Make the finance industry to pay

When I read that Hedge funds raise bets against euro or the benefits of naked Credit Default Swaps are, to say the least, unsubstantiated as the world worked just fine before CDS creation, I wonder why a financial transaction tax is not yet imposed to make speculators pay or make bankers in general to pay for their negative externalities (or polluters pay principle in financial markets). Although the idea now in circulation is sometimes called a Tobin Tax, my idea goes beyond the levy on currency transactions that American economist James Tobin proposed in the 1970s.





A tax on currency transactions and derivatives could be implemented immediately and painlessly, and would raise easily at EU level 100-200 billions euros. In the EU the U.K. raises more than $30 billion a year on a tax that applies only to stocks.

In the case of EU the "tax" I have in mind is more like an EU budget own resource, to provide an additional resource to fund the EU budget and/or a fund (why not a European Monetary Fund) that will help rescue countries and financial institutions that get into trouble, so helping prevent the sort of sovereign debt crisis we have seen in the past few years. Thus revenues from a financial transaction tax could cover a number of purposes of which I would consider a priority the issuance of EU bonds. The latter is an effective solution to the present EU sovereign debt crisis and refinance gradually all the maturing debt of the PIGS. This would not only significantly reduce the cost of financing of PIGS debt, while creating a EU bond market, but it would replace any International Monetary Fund role and/or conditional loans.

The question is not only whether the financial transaction tax is better than cutting public services (reducing deficits) or raising other taxes (on income, production or consumption) but whether the finance industry must to pay more than is doing at present and pay for its big contribution to the crisis (including sovereign debt one) and recession. Considering progressivity of taxation and redistribution of scarce resources, my answer is make the finance industry to pay.

PS: Please do not argue that financial innovation is good and finance industry is contributing to growth, liquidity and efficiency in the markets or that a financial transaction tax would be passed on to consumers. So far finance industry has destroyed quite some wealth of the nations and such a destruction is being passed on immediately to taxpayers (who would like some of their money back with interests).

Update: Greece announced painful new austerity measures worth euro 4.8 billion. Without questioning the merit of these measures as a matter of economic policy choice, I just note that that amount could be doubled or tripled either with savings on interest rate on bonds issued at EU level (the spread between German and Greek bonds would lower with some kind of cross-guaranteed EU bonds) or with a financial transaction tax at EU level to be apportioned for Greece.