Blind 'em with science
When all of the heavy firepower that the EU said it was firing after the Wednesday summit is analyzed, a fair proportion of it looks to be the result of blanks being fired. Cunningly, the EU has pushed out three "solutions" simultaneously, in the vague hope that the general public, at least, will not bother to read the analyses that come from, well people like me.
The three solutions produced in the wee small hours on Thursday morning were, once again, high on declarations of intent and low on details of how this intent was going to be achieved. I'll focus on one of these (the Greek haircut), not because that one is the most important - it's probably the least important of the three - but because it's the most neglected and is the one that has been most interpreted as a "real" answer.
Let's get the other two "solutions" out of the way and explain why they don't really solve anything:
1) Recapitalize the banks.
No sooner had the EU announced that the Tier 1 Capital ratio would be raised from 5% to 9% than banks such as Pohjola in Finland were announcing proudly that it didn't make fuck-all difference to them, mate, they were Finnish and they were in tip-top condition by virtually any measure you came up with, and by others such as Portugal's Espirito Santo Financial Group saying that, er, well, actually the Bank of Portugal seems to think that we are E1.487bn light, so could you investors chuck E790.7m our way, please?
As I wrote before, the paradox here is that, if the private sector (such as pension funds) decline to back the increased equity of the banks that need it most, and if the less-stable banks continue to find it hard-to-impossible to get any "term" funding (two-to-five year lending agreements), then the only logical source of funds is the Central Banks, but then you get the situation of States whose dodgy sovereign debt has caused the need to recapitalize banks issuing more Sovereign debt to help recapitalize the banks. Well, that's an interesting piece of financial engineering, but it's hardly sound.
Bloomberg observed this morning that:
In 2008, the U.S. Federal Deposit Insurance Corp. gave a guarantee on bank bonds, allowing financial institutions to access markets with the backing of the government. For European policy makers to replicate the success of that program any warranty would have to be given at the EU level because the deteriorating public finances of southern states means they would struggle to back their banks, analysts said.
Well, "warranty at the EU level" is the one thing that Germany blocked last week.When we get on to the EFSF bit, I'll argue that what we are kind of getting here are sort-of-eurobonds without calling them eurobonds. Or, rather, an EU-wide guaratnee that Germany can pretend is not an EU-wide guarantee.
The largest recapitalization problems fall most on Greece and Cyprus. Seventy banks were tested, with German banks needing just E5bn (I think France is E12bn -- but France is so opaque that it might "really" need much more than that). Spanish banks need E26.2bn and Italian banks need E14.8bn. Greece, considerably smaller in total capitalization to start with, needs to find an extra E30bn. Now, let's be blunt here, without an EU guarantee, the Greek banks have not got a hope of raising that money.
So, in the places where the recapitalization is particularly important (it's important everywhere to avoid a post-Lehman-like liquidity crisis, but it's important in Greece to stop the banks shutting their doors) it's hard at the moment to see where that recapitalization is coming from. Which is where the EFSF guarantees come in....
2) Increase the firepower of the EFSF:
As I posted on October 24, without China, the whole thing falls apart. Klaus Regling, boss of the EFSF, is in China today looking to negotiate Chinese state backing. What is not mentioned here is that this is yet another example of a eurobond without a eurobond. Any Chinese money that has already come into the euro has not, you will be unsurprised to learn, been into Italian or Spanish bonds. It's been into German bonds. And any future money that comes in will only come in if Germany basically promises to act as backstop. Promising undying friendship and eternal gratitude doesn't really cut it for the Chinese, who, for an ostensibly socialist state, are rather good capitalist bargainers. And, for a country that's determined not to be the last resort for European debt guarantees, Germany is going to be making a darned good impersonation of being the last resort for European debt guarantees.
So, the general plan is for China to bash cash into the EFSF, which Germany promises won't leave China high and dry, and those funds can be used to guarantee the new debt issued by Greece, Italy, Spain and Portugal. It's a eurobond in all but name, separated only by one level in order to give what Richard Nixon might have described as "plausible deinal".
3) The Greek haircut.
This actually appeared the least controversial matter, in that the EU was agreed on it, the EU banks agreed to it (albeit with a heavy heart) and it looked to reduce Greece's debt-to=GDP ratio to a possibly manageable 120%.
But the details are far less cheerful. For a start, I fail to see how a 50% haircut doesn't qualify as a default. By this parameter, if all the people who are owed money agree to a 99% haircut (no matter how heavy the political pressure on the lenders) then this is not a default. That is clearly bollocks.
But the argument here is that the haircut is voluntary, and it's here that some interesting numbers emerge. Although a European bank can be leant on to accept a 50% haircut (75% of Greek debtholders accepted a 21% haircut), non-European bank debtholders, or hedge funds, might not be so inclined to accept.
The European Banking Authority's latest stress tests found that European banks held E98.2bn of Greek debt. The total outstanding Greek debt is E350bn. Past emerging market restructurings done a voluntary basis were done with less than 30% haircuts.
See this comparison of the Argentinian default with the Greek "restructuring".
http://www.safehaven.com/article/16926/a-comparison-of-our-greek-bond-restructuring-analysis-to-that-of-argentina
I think the number of rejectors of a 50% haircut will be far higher than the 25% that rejected the 21% haircut (this in itself was about 30% of the non-European bank debtholders). If there is a high level of "sod off, are you taking the piss?" response, then a mandatory debt exchange would be the result. That in early 2012, when ISDA meets, would trigger the credit default swaps, which are currently being held as useless bits of paper and making many sovereign banks wonder why they bought such "insurance against default" in the first place.
++++++++
So, what's the "triumph" of the latest summit? We have a bank recapitalization that will be hard to achieve in the places that need it most, a strengthening of the EFSF that is really little more than a leap of faith and which, at 1trn euros, still only staves off the eventual fateful day, and a Greek "haircut" that actually only consists of a vague belief that people who are owed a tenner will accept a fiver in the interests of world stability.
NFC, as I believe they say.
The three solutions produced in the wee small hours on Thursday morning were, once again, high on declarations of intent and low on details of how this intent was going to be achieved. I'll focus on one of these (the Greek haircut), not because that one is the most important - it's probably the least important of the three - but because it's the most neglected and is the one that has been most interpreted as a "real" answer.
Let's get the other two "solutions" out of the way and explain why they don't really solve anything:
1) Recapitalize the banks.
No sooner had the EU announced that the Tier 1 Capital ratio would be raised from 5% to 9% than banks such as Pohjola in Finland were announcing proudly that it didn't make fuck-all difference to them, mate, they were Finnish and they were in tip-top condition by virtually any measure you came up with, and by others such as Portugal's Espirito Santo Financial Group saying that, er, well, actually the Bank of Portugal seems to think that we are E1.487bn light, so could you investors chuck E790.7m our way, please?
As I wrote before, the paradox here is that, if the private sector (such as pension funds) decline to back the increased equity of the banks that need it most, and if the less-stable banks continue to find it hard-to-impossible to get any "term" funding (two-to-five year lending agreements), then the only logical source of funds is the Central Banks, but then you get the situation of States whose dodgy sovereign debt has caused the need to recapitalize banks issuing more Sovereign debt to help recapitalize the banks. Well, that's an interesting piece of financial engineering, but it's hardly sound.
Bloomberg observed this morning that:
In 2008, the U.S. Federal Deposit Insurance Corp. gave a guarantee on bank bonds, allowing financial institutions to access markets with the backing of the government. For European policy makers to replicate the success of that program any warranty would have to be given at the EU level because the deteriorating public finances of southern states means they would struggle to back their banks, analysts said.
Well, "warranty at the EU level" is the one thing that Germany blocked last week.When we get on to the EFSF bit, I'll argue that what we are kind of getting here are sort-of-eurobonds without calling them eurobonds. Or, rather, an EU-wide guaratnee that Germany can pretend is not an EU-wide guarantee.
The largest recapitalization problems fall most on Greece and Cyprus. Seventy banks were tested, with German banks needing just E5bn (I think France is E12bn -- but France is so opaque that it might "really" need much more than that). Spanish banks need E26.2bn and Italian banks need E14.8bn. Greece, considerably smaller in total capitalization to start with, needs to find an extra E30bn. Now, let's be blunt here, without an EU guarantee, the Greek banks have not got a hope of raising that money.
So, in the places where the recapitalization is particularly important (it's important everywhere to avoid a post-Lehman-like liquidity crisis, but it's important in Greece to stop the banks shutting their doors) it's hard at the moment to see where that recapitalization is coming from. Which is where the EFSF guarantees come in....
2) Increase the firepower of the EFSF:
As I posted on October 24, without China, the whole thing falls apart. Klaus Regling, boss of the EFSF, is in China today looking to negotiate Chinese state backing. What is not mentioned here is that this is yet another example of a eurobond without a eurobond. Any Chinese money that has already come into the euro has not, you will be unsurprised to learn, been into Italian or Spanish bonds. It's been into German bonds. And any future money that comes in will only come in if Germany basically promises to act as backstop. Promising undying friendship and eternal gratitude doesn't really cut it for the Chinese, who, for an ostensibly socialist state, are rather good capitalist bargainers. And, for a country that's determined not to be the last resort for European debt guarantees, Germany is going to be making a darned good impersonation of being the last resort for European debt guarantees.
So, the general plan is for China to bash cash into the EFSF, which Germany promises won't leave China high and dry, and those funds can be used to guarantee the new debt issued by Greece, Italy, Spain and Portugal. It's a eurobond in all but name, separated only by one level in order to give what Richard Nixon might have described as "plausible deinal".
3) The Greek haircut.
This actually appeared the least controversial matter, in that the EU was agreed on it, the EU banks agreed to it (albeit with a heavy heart) and it looked to reduce Greece's debt-to=GDP ratio to a possibly manageable 120%.
But the details are far less cheerful. For a start, I fail to see how a 50% haircut doesn't qualify as a default. By this parameter, if all the people who are owed money agree to a 99% haircut (no matter how heavy the political pressure on the lenders) then this is not a default. That is clearly bollocks.
But the argument here is that the haircut is voluntary, and it's here that some interesting numbers emerge. Although a European bank can be leant on to accept a 50% haircut (75% of Greek debtholders accepted a 21% haircut), non-European bank debtholders, or hedge funds, might not be so inclined to accept.
The European Banking Authority's latest stress tests found that European banks held E98.2bn of Greek debt. The total outstanding Greek debt is E350bn. Past emerging market restructurings done a voluntary basis were done with less than 30% haircuts.
See this comparison of the Argentinian default with the Greek "restructuring".
http://www.safehaven.com/article/16926/a-comparison-of-our-greek-bond-restructuring-analysis-to-that-of-argentina
I think the number of rejectors of a 50% haircut will be far higher than the 25% that rejected the 21% haircut (this in itself was about 30% of the non-European bank debtholders). If there is a high level of "sod off, are you taking the piss?" response, then a mandatory debt exchange would be the result. That in early 2012, when ISDA meets, would trigger the credit default swaps, which are currently being held as useless bits of paper and making many sovereign banks wonder why they bought such "insurance against default" in the first place.
++++++++
So, what's the "triumph" of the latest summit? We have a bank recapitalization that will be hard to achieve in the places that need it most, a strengthening of the EFSF that is really little more than a leap of faith and which, at 1trn euros, still only staves off the eventual fateful day, and a Greek "haircut" that actually only consists of a vague belief that people who are owed a tenner will accept a fiver in the interests of world stability.
NFC, as I believe they say.