Euro “Zone” Out

By Ben Davies, CEO of Hinde Capital

December 7 (King World News) - The Euro Sovereign Debt crisis is really a sudden stop of capital flows to the periphery countries, which threatens to spill over into the core countries. Everyone is wondering how we got here.  Would you indulge me in an analogy?

A terrible thud echoed around the tiny municipal airport in Wisconsin. The date was June 2002 and the noise was heard by a number of people, who were soon to discover the reason for the singularly unnerving sound.  Near one of the hangars they found the crumpled body of Luca Bertertto.  The 31 year old Italian had last been seen plummeting to earth at an altitude of over 3,000 feet.  He had been skydiving along with an experienced group. They were all seasoned veterans.  No one saw him "go in" - the sport's euphemism for hitting the ground. 

The reasons cited for Luca's unfortunate demise was a "no-pull".  The handles on the main parachute and emergency chutes remained intact. There was no evidence of mental instability and suicide was ruled out in the coronary report.  Here was an experienced skydiver who had failed to deploy any of his parachutes.

Every year, according to accident experts, around 35 people die in skydiving accidents out of some two and half million jumps. That's one fatality for every seventy-one thousand leaps. Ten percent of these accidents involve the "no-pulls" or even "low-pulls". 

One reason cited for a "no-pull" is the skydiver is preoccupied with a new activity and loses track of time, but a more alarming reason is what is termed a brainlock or a "zoneout".  Even experienced skydivers are prone to an overload of stress hormones that literally freezes the mind. When you are speeding at a terminal velocity of 120mph towards earth this can result in a fatal conclusion.

For us mere mortals who prefer to transport ourselves by automobile.  This "zoneout" is perhaps analogous to speeding down the motorway whilst looking at the dials on the radio whilst trying to pick up a better music station.  Perhaps " RTL" for all you Europhiles out there.  Or worse still we merely forget to apply the brakes when confronted by slowing traffic because we are stressed by work thoughts and or we were too intent on our mobile conversation.

The plight of skydivers was taken from a book aptly named "The Survivors Club" by Ben Sherwood.  Euro leaders are suffering from their own "no-pull". Actually let's be more generous,  they are suffering from their "low-pull". They have comprehensively failed to deploy their own chute within the allotted time given, before the euro plummets forthwith to the depths of the earth's mantle.

They are suffering from a euro"ZONE" out.  Either they have failed to grasp the gravity of the situation, so comforted are they in the knowledge that as there is no plan B for a Europe without a single currency, that they actually believe it won't fail. Or they kind of get it, but are in a major state of shock and denial.  So they deny, deny, deny....until oh cr@p...they’re dead.

The lack of both political and monetary union has never been and never will be the basis for a sound monetary regime.  Worse still one with a lack of labour mobility and uniformity in taxation and pension policy is likely doomed to failure.

In a recent IMF paper the author argued that defaults in today’s advanced countries are “unnecessary, undesirable and unlikely”!  I can’t help but feel a sense of déjà vu. Walter Wriston, Chairman of Citibank, (Chuck Prince’s mentor no doubt), claimed “a country does not go bankrupt”. This was just  on the eve of the biggest financial crisis to hit the world since the 1930s Great Crash.

In 1982 Mexico informed the world it would not be able to meet an obligation to service an $80 billion debt. This was the spark for the Latin American Crisis that swiftly became known as the International Debt Crisis.  By October 1983, 27 countries had rescheduled their debts, predominantly to US banks. 16 out of the 27 nations were from Latin America, with the four largest countries owing the most to commercial banks. Fast forward three decades and 16 nations within a federated bloc called the European Union stand on the cusp of default process themselves, which threatens yet another International debt crisis.  Except this crisis is merely one of many yet unresolved.

We have the US municipal state crisis, the mortgage (foreclosure) crisis, global G3 debt crisis (potentially) and - oh yes - a potential European banking /sovereign debt crisis that could yet cause a systemic meltdown of the global monetary system.  So while there are many similarities it perhaps would be churlish of one to overplay them!  In the case of Europe there is one obvious difference: a single monetary union, ie the euro, is endangered today, not just the sovereign debt of individual nations.

Let’s revisit our “no-pull” or “low-pull” analogy. The reason accident investigators understand so much about the mindset of "no-pull" victims is that on most chutes an automatic activation device kicks in, deploying the chute.  Of those where it has actually been called upon and worked, the skydiver always stated they had just "zoned out".  European leaders are searching for their automatic activation device just like on a skydiver’s chute, but nothing seems to work.

European leaders realise that debt is choking off growth. They realise they have no monetary independence by which to collective monetise it all.  The “Weimarish Weber” won’t allow the ECB to monetise. I wonder how long he will resist. They have no currency independence by which to play the old current account game and export themselves out of their woes via a devalued currency, (especially as often export intra- bloc). They also realise this is now a banking and sovereign crisis all rolled into one. Banks and sovereign nations are synonymous when it comes to default risk. The core countries banking sector owns up 20% of GDP with regard to just the periphery sovereign debt.

The European Financial Stability Facility is not the answer.  The guarantee commitments to provide debt support for ailing euro countries is mainly supported by France 20%, Germany 27%, Italy 18%, and Spain 12%. It guarantees only one thing that countries know they can pursue the default mechanism, except it will backfire.

For instance Spain, all be it suffering mild public debt to GDP burdens has a terrible private sector debt to GDP ratio which has to be funded externally to the tune of 90% of GDP. Spain crippled by a collapsing real estate boom has to rollover vast sums of debt in the New Year.  Spain will come under the eye of speculators and worried holders. They should. Countries are being kept honest. If Spain debt rates rise they cannot contribute to the EFSF.

Scandalously, private bondholders, namely the core European banks, have not shouldered any burden, and Merkel has back-tracked on putting in an “orderly restructuring mechanism”. Markets anticipated the imminent collapse of the banks and sovereigns alike. After all they are one and the same now. We have heard of many German financial solutions, some are terminable – default. But one that springs to mind, and one that was much credited for the turnaround in the Latin American crisis, was the issuance of Brady bonds.

Nicholas Brady, the former US Treasury Secretary, constructed the plan to help clear the air for developing countries to access capital markets. In short, commercial loans given to LDCs were standardised as bonds. There were all sorts of structures: par bonds, discount bonds, front-loaded interest-reduction bonds, debt conversion bonds, past due interest bonds, you name it.  Essentially there were haircuts and guarantees on the debt, all structured to help out both debtor and creditor. It enabled the bad loans to be repackaged, so they no longer encumbered the banks whilst at the same time freeing the LDCs of over-burdensome interest and debt payments.  The Brady Plan galvanised the emerging markets, but by then a good decade had been lost. Notably, also, “debt intolerance” rose for those who received Brady relief. Many experienced subsequent debt crises.

Euro leaders must ask themselves is the euro a flawed concept? Do they recognise that without fiscal consolidation, which is tantamount to sovereign unity, the euro is an unlikely survivor? Sovereign unity I really believe will never happen. Nations are too polarised. The European Union needs a stabiliser. May be it‘s a Brady-like bond, perhaps aptly named a “Merky” bond for its ‘full disclosure’, or a “Sarky” bond, laughably ironic in its debt forgiveness, or even perhaps a “Trickey” bond, one supported by the full might of Trichet’s printing press.

But dare I suggest one other – a universal consolidator – gold

Another outstanding piece by rising star Ben Davies.

Eric King

KingWorldNews.com

To return to BLOG click here.

next >

< previous

Contact Us:

KWN Disclaimer: