Cross-posted from Credit Writedowns
Yesterday, I had the pleasure of talking on CNBC along with Marc Chandler of Brown Brothers Harriman about the European sovereign debt crisis. I also wrote a piece in the New York Times about the same issue, concentrated on Greece. While Marc and I differ somewhat in tone, we are both clear that eventually a restructuring of principal will happen.
Here’s the background to what we said:
- Greece needs a strategic plan. At a minimum, a soft restructuring – that is to say, a voluntary reduction of interest rates and an extension of maturities – will happen sooner than later under the EFSF facility. While this is necessary, it will certainly not be enough. Eventually, principal reduction will occur.
- Bank capital must be protected from immediate losses. Principal reduction has to be done with timing and in a way that considers the stress to Greek and foreign bank balance sheets. The problem with an involuntary default is that it would trigger immediate losses and panic. Europe’s banks are still undercapitalised; so such a default must be avoided at all costs.
- It is unclear whether the move to principal reduction will be messy. An involuntary default would clearly be messy. I don’t see this scenario as likely, and it certainly won’t happen in 2011. Instead, I anticipate a soft restructuring followed by a certain amount of political dithering, which will create contagion that forces a hard restructuring (aka ‘soft default’) down the line. This will be “somewhat messy”.
- Neither Marc nor I mentioned a euro zone break-up. My view is still that some combination of monetisation and a voluntary default, hard restructuring package is the most likely scenario for Europe. When I handicapped scenarios after the Irish stress tests in late March, I felt this way. I still do now. This means that when you look at the three options for the euro zone, monetisation, default, or break-up, I see break-up as by far the least likely. Again, a hard restructuring/soft default is much more likely.
- Credit default swaps triggers can be avoided. My view is that a restructuring that involves maturity extension, interest rate and principal reduction via an exchange of bonds or a roll off of maturing issues does not necessarily have to involve a technical default that triggers credit default swap payments. If a strategic plan is properly conceived via bond exchanges, investors will lose money but actual default can be avoided. Obviously, a reduction of principal is still a loss of money for investors. But, it is key that this loss take place with as little unwanted negative consequences for other euro zone debtors and the banking system.
I wrote a follow on piece in the New York Times, detailing how to prevent the ‘somewhat messy’ situation we have now from becoming uncontrollable. Here are what I consider the hallmarks of a good plan:
- Growth is key. Austerity decreases output, so immediate principal reductions are necessary to keep the debt burden manageable
- Incentives must be built in for both investors and debtors to share in the upside of growth and recovery. The stick does not work without the carrot.
- We want to see Greece with market access at reasonable rates as soon as possible. Therefore, any plan must offer credit enhancement because Greece has lost credibility with the market.
- The banking system must be protected. See my second bullet point in the first section about European bank capitalisation. And note that investors like Felix Zulauf feel that Europe’s banks are winning the battle with regulators to allow them to remain undercapitalised.
Clearly, all of this contingency planning should be done in private right now. In the meantime, the present arrangement, or even a soft restructuring would aid Greece until a permanent solution is found like the one proposed by Evans and Allen.
Please read the full NYT piece on the Greek crisis here along with the opinions of other commentators.
CNBC Video below.
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The banking system must be protected Edward Harrison
Actually, a bailout of the entire population would fix the banks in nominal terms – not that they deserve it.
Furthermore, we need genuine liberty in private money creation to escape the economic extortion of the government backed counterfeiting cartel.
Yeah I was wondering about that statement too. If protection means nationalization, well that might not be so bad. But protecting the private interests of this cartel of thieving oligarchs seems far from necessary. At this point, the whole world ought to be declaring a debt jubilee and let the crooked bankers work out among themselves who’s going to take what losses.
Spring of Piggies and bunga bunga
What a farce.
Someone will be taking a haircut(or getting scalped anytime soon)Good times are fast approaching,if your of the “time to buy is when the blood is on the streets ilk”
PrinciPAL reduction, not PrinciPLE reduction. Obama’s done enough of the latter.
thank, that’s fixed.
The Greeks are showing lack of PrinciPLE in asking for PrinciPAL reduction
No, it is very principled to demand a principal reduction from the counterfeiting cartel. In fact, principal should be reduced to zero.
I fear you are at risk of confusing principle and theft.
Theft of what? Banks don’t lend money; they create it with 33 to 1 leverage.
OK, I was wrong. Only 97% of the principal should be forgiven.
Thanks for the correction.
F Beard,
“Theft of what? Banks don’t lend money; they create it with 33 to 1 leverage.”
And why was this not so objectionable when the borrowers helped them selves in the first place??
As you can see no amount of pump priming is re-inflating the housing bubble currently. Besides the economic is so slow….
So money is only what society as a whole will consider it be.
And enforcements are a big part of that jigsaw.
If you persist in mistreating in treating contractual obligations so lightly even the cowrie shells you are suggesting as an alternate will not have too much confidence as no contracts going forward will have any enforceability.
And why was this not so objectionable when the borrowers helped them selves in the first place?? illusionist
What real choice did people have other than speculating? Earning negative real interest rates on their savings while waiting around for a depression? Some choice!
As you can see no amount of pump priming is re-inflating the housing bubble currently. Besides the economic is so slow…. illusionist
We don’t need pump priming. We need a bailout of the entire population including savers so they can quit longing for a depression.
So money is only what society as a whole will consider it be. And enforcements are a big part of that jigsaw.
If you persist in mistreating in treating contractual obligations so lightly Illusionist.
The contracts are impossible in aggregate since the banks create the principal but not the interest for loans. Furthermore, the contracts involves coercion because to not borrow from the banks is to be priced out of the market by those who do.
even the cowrie shells you are suggesting as an alternate will not have too much confidence as no contracts going forward will have any enforceability. illusionist
Actually, without the government enforced counterfeiting cartel, the banks, to borrow from then businesses would have to pay much higher interest rates for money OR issue new common stock. Either way, business would have to share wealth rather than loot it.
Fact…monies are now trust backed by force, debt governmental or private are subject to the same conditions, so whats the real diffidence, rapture coinage[?] you can’t take it with you fiat[?], it all comes back to the creator in the end bonds?
Skippy…churches, corporations, mobs[?], issuing currency…can you say currency feudalism, small time tin pot dictators. Their are better alternatives, resource constrained / backed exchange.
F Beard;
“What real choice did people have other than speculating? Earning negative real interest rates on their savings while waiting around for a depression? Some choice!”
Ah! So now you admit there was speculation going on. I thought so far the refrain was it was a house not an investment…no financial consideration went in yada yada.
Looks to me like the borrowers placed your bets and miscalculated everything thing else is smoke & mirrors.
BTW heard of optionality that liquidity provides – don’t have to be all-in you know.
Ah! So now you admit there was speculation going on. illusionist
Of course I do. That is my point; the population was forced into speculation by negative real interest rates on their savings.
Face it. Our money system is rotten. People have tried to point this out for centuries. One day it may be too late.
F. Beard: “the population was forced into speculation by negative real interest rates on their savings.”
Exactly. It wasn’t possible to actually SAVE, people were forced to “invest” to see any return on their money. It all worked, until it didn’t.
The Greeks are showing lack of PrinciPLE in asking for PrinciPAL reduction
I agree. If they had principle, they wouldn’t ask, they’d take.
Not many noises were heard when the Greeks were running up the debt in the first place. Running up the debt in the first place was ok? But paying it back is evil??
Running up the debt in the first place was ok? illusionist
What else can one do in the face of artificially low interest rates? Be priced out of the market by those who do borrow?
But paying it back is evil?? illusionist
Actually it is evil. The money was created from nothing and goes back to nothing as it is repaid plus an additional amount in the form of interest is removed from circulation.
Banks are legal counterfeiters. They force entire populations into debt. Now that the world is debt-saturated, the Ponzi scheme cannot be kept going with new debt. The game is over. it’s time for a reset.
F Beard;
“What else can one do in the face of artificially low interest rates? Be priced out of the market by those who do borrow?”
Yes- don’t try to keep up with the Jones.
Asset bubbles tend to end badly and provide much better entry levels latter. I know- people were not buying an investment they were buying a house yada yada. (mind you a few people even seem to confuse a home & a house…)
Got news for you – if so why are so many now complaining about being under water? Sounds like you basically agreed to pay an annuity to live in a house nothing in that has changed even if the investment/asset is lower in price(which characteristic you care nothing about). It is still the same turd heap with a picket fence though it sells for less. Why do you now want out?? why not keep your annuity payments going and going and going?? – It suddenly now becomes a bum investment you want to bail out of and want others to pick up the tab??
Yes- don’t try to keep up with the Jones.
Asset bubbles tend to end badly and provide much better entry levels latter. illusionist
Assuming one still has a job in a depression. That’s the “Catch-22”. Do you suppose that depressions are necessary and healthy? The last great one caused WW-II.
Got news for you – if so why are so many now complaining about being under water? illusionist
Question? How is it even possible for so many houses to be underwater? Ans: Because banks lend money they don’t have thereby driving up prices (and debt) to nonservicable levels during the bust.
The money system is crooked. One should not have to wait around for a depression (assuming he still has his job) to be able to afford a home.
Blaming the victims is bogus. The system has perverse incentives that drive people into debt.
F Beard;
“How is it even possible for so many houses to be underwater? Ans: Because banks lend money they don’t have thereby driving up prices (and debt) to nonservicable levels during the bust.”
Precisely my point too. Banks and the borrowers together drive up prices.
“The money system is crooked. One should not have to wait around for a depression (assuming he still has his job) to be able to afford a home.”
Ownership is overrated in the first place and it is not a given or right in the second. Furthermore if you are insisting on buying, why buy on debt? Debt should be used only for business/productive purposes and not consumption. Save for what you want and don’t buy till you have enough saved.
Furthermore if you are insisting on buying, why buy on debt? illusionist
Because the banking system pays negative real interest rates on savings; housing prices rises faster than one’s savings can.
F Beard;
“Because the banking system pays negative real interest rates on savings;”
What about optionality that liquidity provides?
“housing prices rises faster than one’s savings can.”
Not now it does not.
Not many noises were heard when the Greeks were running up the debt in the first place. Running up the debt in the first place was ok? But paying it back is evil??
The debt system was imposed from the top down for the benefit of corporatism in general and the banksters in particular. The government, banks, and MSM propagated a Big Lie even as they knew it was a bubble, and even as they were systematically destroying living-wage jobs. They were running a monumental con.
The whole thing is what’s called an odious debt. The people do not owe it.
Ownership is overrated in the first place and it is not a given or right in the second.
Sure it is. It’s an “Ownership Society”, isn’t it? (And who overrated it? That same government/bank/media cabal.) If part of citizenship isn’t going to be ownership available to anyone willing to work the land, then why should “ownership” be tolerated at all?
Oh, I forgot, it was all a scam. “Ownership” was meant to gull the rubes but really provide ideological cover for the terminal enclosure of all real assets like land in the hands of worthless parasites while not only citizen ownership but citizenship itself was steadily eroded, degraded, and destroyed.
Now that the magnitude of the crimes is clear, I humbly suggest we the people hit the Do Over button. We can start by repudiating all debt except the monumental debt owed by the criminals to the people. That debt must be discharged in full.
ahh, but we knew this result / event would arrive eventually back when the initial ‘bail-out’ was announced / crafted…
ABC’s Clarke and Dawe got it right:
http://www.youtube.com/watch?v=5D0VhS8qXT0
Brown Brothers Harriman? Does it get anymore blatant?
http://www.guardian.co.uk/world/2004/sep/25/usa.secondworldwar
Look: they’re planning on disenfranchising the poor; the international monetary system as we know it is kaputz. And those good-ole-boys still utilize their club memberships.
“soft restructuring”:
http://chronophobia.org/poison.htm
http://www.spiegel.de/international/europe/0,1518,764224,00.html
What a bunch of crap. More garbage from the financial elite and their shills. Greece needs principal restructuring, NOW! Let the banks fend for themselves. Implement the Icelandic solution; kick the fraudulent bankers to the curb, so the rest of us can get on with our lives.
It’s a question of dominion; is it not?
“Will I get my money back?” They make it sound like your buddy at the bar is asking. I mean, doesn’t everybody have at least a couple thousand in Greek bonds?
I’ll admit that we might all feel it if Greece defaults, but only because the banksters f***ed up again, leveraging so much that when they’re forced to take a haircut they’ll be on the verge of bankruptcy. In response to their cries for help their employees in Congress will open the treasury doors again.
“SPIEGEL: With all due respect to your restraint on the question of restructuring, what happens if we’re sitting here again next year and conclude that Greece is still not on a stabilization course?
Juncker: If the donkey were a cat it could climb a tree. But it is not a cat. Nevertheless, this is a question that worries many people. My answer to it is almost a little theological: I do not believe that this question will ever be asked.”
See! Faith and feathers!
The weight of this sad time we must obey,
Speak what we feel, not what we ought to say.
The oldest hath borne most: we that are young
Shall never see so much, nor live
so long.–shakespeare/kinglear
The Key line is :”In debt to none I be.”
There was a jolly miller once
Lived on the River Dee;
He work’d and sang from morn till night,
No lark more blithe than he.
And this the burden of his song
Forever used to be;
I care for nobody, no, not I,
If nobody cares for me.
The reason why he was so blithe,
He once did thus unfold;
The bread I eat my hands have earn’d;
I covet no man’s gold;
I do not fear next quarter-day;
In debt to none I be.
I care for nobody, no, not I,
If nobody cares for me.
A coin or two I’ve in my purse,
To help a needy friend;
A little I can give the poor,
And still have some to spend.
Though I may fail, yet I rejoice,
Another’s good hap to see.
I care for nobody, no, not I,
If nobody cares for me.
So let us his example take,
And be from malice free;
Let every one his neighbour serve,
As served he’d like to be.
And merrily push the can about
And drink and sing with glee;
If nobody cares a doit for us,
Why not a doit care we.
The Miller of the Dee – one version – source Wikipedia
Doit?
Ah, yes. The JOLLY miller. Jolly ole England. Jolly feudal fun.
http://www.youtube.com/watch?v=_1xE1lhkxnw&feature=related
Your analysis is rational but politics is not.
And politics is driving this runaway train now.
In order for the euro to survive it must have some minimum level of support.That is dwindling rapidly in the peripheral countries.
I live in Ireland and negativity towards the EU has been escalating rapidly.This is indicative of a people who dont have a visceral loyalty to the euro and EU and who were positive towards it only when it was good for them.
Similar views are expressed in Spain,Portugal and Greece.
If Greece does default in a disorderly manner I think the euro will collapse very quickly as there will be panic and bank runs.
In Ireland there has been a silent bank run underway since August 2010 with over a 100 Billion euros of deposits leaving the country.Rarely discussed in Irish media almost everyone has set up or is setting up accounts abroad and getting their savings out.
This is depleting the capital reserves of the banks requiring more top ups from the bailout.
We have the bizarre situation where over 9 billion euros of EU bailout money charged at 5.6% has been drawn down by the Irish government and deposited in Irish banks at approx.2.5% interest rate to shore up their reserves and disguise rapidly dwindling deposits.The banks are giving an interest rate on deposits which leaves a loss of almost 500 million euros to the Irish taxpayer when this bailout money is due to be used in July as per the agreement.
Presumably similar shenanigans are going on in Portugal and Spain and we definetely know they are going on in Greece.
EU citizens have far more sense than their politicians, who are blinded by the virtues of a unified continent that they push for more integration without considering the consequences.
I agree with you in that the PIGS situation will not end well. Right now, everyone is shoving matters under the rug by extending maturities, giving short-term loans, and papering over deficits. Spain is doing the same thing with municipal and provincial finances. Sooner or later the debt will surface just like in Greece’s case.
The best thing to do is for the PIGS to default on their debt. Ireland already made the tragic mistake of assuming private debts. The rest of the continent can default and leave the euro, which will force them to constrain their spending by the bond markets (rather than the whims of bailouts).
It is becoming increasingly clear that the Euro is a failed construction. The analogy of states in the US is largely inapplicable.
Ireland is a future default. Greece needs to default and devalue. Greece is otherwise a sinkhole for donor nations hoping for real reform. Greece has been in default about half the time. They never should have been allowed in the EMU.
All it really takes is one donor country refusing to pay or a deadbeat country refusing the terms. A breakup seems almost unavoidable.
I’m fascinated by the statement that CDS swaps need not be triggered even though bondholders would lose money.
Why pay for CDS protection, if you can take a haircut without the CDS kicking in?
If you’re forced into an exchange where you’re not getting timely payment of interest and principal, how is that not a default?
And why is it of economic importance and morally justified and who are the players providing protection who need and deserve to be shielded?
When I read something like this, it makes me think CDS are very sketchy indeed, and wonder what purpose they serve, besides providing flim-flam opportunities to the sharper and more powerful.
You ask, “What purpose they serve”?
I answer, they enable you to hold much less capital against the asset than you would otherwise have to if you did not have this “insurance”. In the end, the CDS may have been worthless. But until that time, you were able to report higher earnings than you would have been able to without the CDS.
“Credit default swaps triggers can be avoided”
The corporate bond exchanges that I am aware of triggered a technical default. Default occurs when the debtor is unable to pay according to the original terms. Participants can choose to call it what they want. If I am the creditor or CDS holder, I call it default. A weasel political type can refer to it as reprofiling.
Edward, you argue that, “Growth is Key”, yet you want Greece to continue using the Euro?
Greece won’t materially grow until it leaves the confines of the Euro. It’s simply not competitive enough. Neither will Portugal.
Argentina is much better off today than it was using the Dollar, and Greece will be much better off once it leaves the Euro.
I have the perfect solution.
1. Talk up the band-aid, tell everyone there’s no way default is happening. Have the ECB hint that it’ll bail out no matter what. Do whatever you have to do, lie, lie and lie. The whole point of all this is to talk down the rate on credit default swaps as much as possible. Talk is cheap, give it a shot.
2. Buy massive default insurance from US banks. Make sure that bank management gets massive bonuses to cover these sales. Provide enough ratings and paperwork to make it look like it’ll all be smooth sailing to cover them in the short term until the deal gets through.
3. Once everything is in place. Full out default. Just go for it. European banks are covered by the insurance. US banks implode to pay out the policies, but they are too big to fail. So the US Government and the Fed come to the rescue with more free money to cover all the loses. Bank management gets even more bonuses due new policy to allow banks to again ‘earn their way’ out of the new hole.
This is a highly linear postulation of events in a highly non-linear atmosphere. Whatever is done to resolve this fragment of the situation will have consequences on the others.. Portugal and Ireland are not going to spend an endless summer of adjustments for Greece while they suffer under austerity.. The wild card with punching power here is the little-reported millions of young people in Spain who are amassing their organizational power. They could reshape the entire consensus view with several weeks of coordinated anger and justifiable fury.
If that be the case can the Condor legion be far behind? I mean now the Germans have skin in the game.
what about the theory that the 30s paramilitaries could never have happened without masses of World War I veterans having their anger and experience molded into these organizations?
modern Germany and Spain are not made of war veterans, they are made of Xbox veterans.
On a scale of 1 to 10, rating “the hallmarks of a good plan,” we are at a solid 1. As long as fascist monetarists whose crazy schemes degrade due diligence to some quaint model that might be useful on paper for the sake of luring capital from short-sighted suckers, but in real life is proven a joke, there is no hope these hallmarks will ever be realized.
Therefore, the Euro is doomed.
The banking system must be protected? That is exactly what has been done so far: saving banks with taxpayers money…We forgot again about the creation of “good banks”…
Strategic plan? What about stopping this creation of money out of thin air and let Greece default straight away?
http://mgiannini.blogspot.com/2010/03/money-creation-for-nothing-or-let.html
I think EU institutions and ECB have been dragging on to avoid to admit that they made mistakes letting Greece to be member of Euro. Along the same line they continue to avoid to admit that French and German banks made simply bad investments thus mistakes for which they should pay and take haircuts… Again the same story like with subprimes…Back to the future of the banking system, to be protected?
“Gambling is illegal.
Credit Default Swaps are legal.
You can’t explain that”
And all the lying is for the sole purpose of defrauding those folks who correctly predicted the defaults and *bet* on them.
Like trying to not pay off on a fire insurance policy that was
taken out by someone on the neighbor’s home/drug manufacturing operation, by calling it a “soft explosion restructuring” instead of a fire.
Just declare insurance with no insurable interest null-and-void, give them all back their fees for buying the insurance, plus interest, then get on with it.
The EC dumb and dumber routine is getting stale….