By Simon Johnson
Yesterday’s announcement of European “support” for Greece was badly bungled.
The Global Crisis Fighter’s Guide to the Galaxy clearly states that when “markets overreact… policy needs to overreact as well” (see Larry Summers’s 2000 Ely Lecture to the American Economic Assocation, American Economic Review, vol. 90, no. 2, p.11; no free link available – and yes, I know that the White House doesn’t always follow its own playbook).
This definitely does not mean: Vague promises to provide some support in an unspecified fashion in return for some policy actions to be specified later.
Irrespective of your view on how much fiscal adjustment Greece needs vs. how much German taxpayer money it deserves (or can realistically expect), you need a different approach – much more concrete and detailed. The only good news yesterday was that the IMF will play a slightly greater role than previously expected, but even this change was a nuance missed by everyone – and who knows where it will lead.
If the euro continues to depreciate as it has so far today, the G7 will need to weigh in.It’s not that the G7 can, in the short-term, do anything at all. But in the highly ritualized theater of speculative attacks, the G7 carries the big stick – the threat of currency intervention.
Waving this stick is not without its complications – particularly if it is not backed up by real policy actions. And the Americans (and Japanese and Canadians), on the basis of the last week, have every reason to push the Europeans to “show, don’t tell.”
Still, talk is cheap and the Europeans are starting to sound a little desparate. Expect the G7 to come in this weekend with a statement about concern regarding potentially disorderly adjustment in major currency markets.
Let’s hope this buys some time – and that the Europeans use that wisely.
The Baseline Scenario 
Europe has collectivley just enjoyed a rare few decades of peace and security. What level of risk to this situation are we willing to tolerate for the sake of the current economic system? 1%? 5%?
What does this mean: “highly ritualized theater of speculative attacks”
I’ve taken a look again at SJ’s slide show. Page Nine In 2003, US financial sector profit was 42% of domestic profit. In 2007, about US financial sector profit was about 27% of domestic profit. Since then Iceland went bankrupt. Now Greece, Portugal, Italy and Ireland are staring at the brink.
The whole system seems out of control … and unmanageable because of the size of the financial transactions and counter parties involved.
To use the bought time wisely, Simon, would mean that they put much more than a Greek cushion in place. Everybody knows that Italian balance sheets are based on cheese, rather the holes in the cheese; nobody mentioned Belgium so far; lots of cheesy smells from there ever since the EURO was in the debate; and let’s not even think about the new member states East of Berlin…
It is about time to finish off this Ponzi game and get back to reality; that includes new currencies but more so new regulations including most importantly regulationg finances on a global scale.
That would be time used wisely.
Christian
“new member states East of Berlin…”?
Well let’s see… Poland is the only EU country not in recession. It has public debt that is below the EU average, and will soon be the only EU country to officially count its implicit pension liabilities as part of public debt statistics…
It was reported and posted the other day that there is a centralized currency over there but the EU lacks a unified (and applied) fiscal policy thus leading to their own ‘bailout’ crisis of its members. Mirror budget problems are happening here in the states but on a much grander scale (California, $20 billion and counting). My issues are with the politics – the more one delves into the issues, the more outraged the other side of the other political aisle becomes–to the near point of actually agreeing with The Tea Party movement (no matter how insane-looking those protestors are with their illeterate signs…). Time after time, there has more than enough evidence to support the notion that finances and passion are the main reason why party affiliation break up and go their own separate ways, but the world is also changing the rules of the road, so please add into the mix, political angst–their Blue faces turn mightily Red, forcing irreconcilable differences; however, the story has a happy ending; liberating one’s self to the right side of history by finding others of like mind and heart.
Incidentally, did you check your comment thread from Huffington Post, I did last evening, and it was up to about 4,150 responses (whoaa!) – but, will you read every one of those blurbs, I would if I had more time ;-)
If you put a translate gadget on your blog people could read it in English. I don’t read Polish :)
Simon, from desolate Europe
The total outstanding Greek debt is $ 306.2 billion
, 77% of the bonds are in non-Greek portfolios ( some will remember the Lehman contingency plan was a $ 100 billion ‘fund’)
See the pie:
http://www.spiegel.de/international/europe/0,1518,677351,00.html#ref=rss
When first last week were discussed a ‘rescue plan’, i.e covering Spain and Portugal, the amount discussed
was approximately 80-100 billion euros, with in the background 324 billions of short term-bills to be rolled over between February and April(see Zero hedge )
While the ‘politicos’ yesterday in Brussels postponed decisions, it was off-record made clear that the European Central Banks were out to support the Euro, so anyone can factor the costs of doing nothing…or not knowing what to do, seven weeks in the making. Maybe they call Hank Paulson….Lol
Wouldn’t Germany love a depreciation of the Euro? I know the ECB wouldn’t like a lot of currency volatility but considering that all Germany seems to be able to do is export they would be better off with a devaluation relative to the Yen, dollar and subsequently the Yuan. So perhaps it is in Germany’s political interest to offer a slightly too small bailout and force Greece to make larger political sacrifices that will inevitably be messier and create uncertainty that will moderately reduce the value of the Euro. That would be a quite self-interested, beggar thy neighbor policy, but given domestic political climates all over the world it seems rather likely.
Nie kochaj zadnego kraju:kraje latwo gina
Slodka moja europejska ojczyzno
C..Milosz
There’s no escaping the reality of debt. The other side wants to get paid. That’s a simple fact. You either default, print money or negotiate. Pretty straight forward.
Top 10 riskiest government bonds:
http://www.planbeconomics.com/2010/02/11/worlds-10-riskiest-govt-bonds/
According to some pundits, Greece will not go gently into the night. Bring your popcorn.
February 13, 2010 – The Australian – excerpt
“Associate Professor Keen, dubbed Dr Doom after decades swimming against the neoclassical economic tide in Australia, said there would be further strikes and uprisings in Athens as Greece took its medicine. “There will be riots in Greece for sure, leading to political turmoil and Greece then leaving the euro. “The Greeks aren’t going to take this lying down.”
He said IMF bankers would be “carried out of Athens on pitchforks” if they tried to impose strict loan conditions on Greece in the event of a bailout. “I think we are in for some interesting times.”
http://tinyurl.com/yzbkan6
I disagree, I think it was handled correctly. If you give too much detail you tell the “enemy” how and where to plan a speculative attack. Christine Lagarde’s interview on BBC Newsnight tells it all.
http://blogs.ft.com/ft-dot-comment/2010/02/12/lagarde-warns-of-crackdown-on-currency-speculators/
However, until there is some financial market reform such as banning CDS or heavy taxation of derivatives trading the cat and mouse game will continue. The more markets are “bewildered” the better.
Sorry to ask a stupid question, but what negative effects would a Euro devaluation have? I know it would boost exports, but why are they so afraid of it? Is it a problem with financing external debt?
It’s a morality play. Everything happens according to formula, because that’s the way it’s supposed to happen and that’s what everyone expects to happen. When the formula plays out, everyone feels better – safer, less anxious.
When someone breaks the formula, the markets overreact – they assume there’s a reason the formula is broken, or that the governments are so incompetent that they won’t be able to do what needs to be done. A huge part of Oct. 2008-Feb 2009 was because the markets lost confidence that the international governments understood or intended to play by the rules. Remember, the markets rallied periodically in the panic phase when they perceived coordinated multilateral action, but then the governments seemed to figure they had done enough and punted.
Indeed, whenever the G20 goverments looked like they would do something, the markets rallied and the G20 seemed to think “well, it looks like we don’t need to do anything after all! the markets are stabilizing! that was lucky!”
Then when the G20 didn’t do anything, the markets all collapsed twice as hard. Even worse, the next time the G20 pledged to do something, no one believed them. (Fool me once shame on you, fool me twice shame on me.)
There are precise forms to this stuff; governments that break them need to be ready to deal with the consequences, and no one really has much confidence left in them.
February 9 2010 FT.com – excerpt
“The chief executive of one of Europe’s biggest banks has warned that the continent’s nascent economic recovery could be thrown into crisis, particularly in eastern Europe, if the threat of a “heart attack” in Greece was not addressed.”
http://tinyurl.com/yjebhm5
I read in the Wall Street Journal today a number of pieces about Europe rescuing Greece. One commentary was to the effect that Europeans are committing to a common defense of all EU member state budgets and finances.
European past experience certainly must suggest that such a course of unified finances be attempted.
Just for counterpoint , what would the prospects of a unified state finance system be in the United States? Surely, future US problems will dictate such a member state financial unification system be attempted. At the same time, a US unified state finance system will be close to politically impossible. Health care, pensions and so forth in the US will probably never achieve a workable unified finance system. How about unified collection of state sales, use and other interstate connected ad valorem taxes?
Europeans at least understand the need to create a unified system. Even so, unified state finances will also not be politically possible.
An electronic state is required for an electronic society. That requires centralization as the most important features that allow existence now require integration. Socially, that does not seem to be a possible end result. Cultures and religions simply will not allow homogenization. Not between the fifty United States . Certainly, that is even more difficult globally. But the EU at least has good reasons for attempting unified state finances.
When the CDS market started in the 1990s the whiz-kid inventors neglected the concept of insurable interest. Anyone could bet on anything, creating a perverse wish for the failure of companies and countries by those holding side bets but having no interest in the underlying bonds or enterprises. We have given Wall Street huge incentives to burn down your house | The Browser
FT.com / Comment / Opinion – How markets attacked the Greek piñata – http://www.ft.com
Models for quantifying risk made banks cocky—and were gamed by the banks themselves. It has cost taxpayers $15tr to find out how little bankers really knew about their business | The Browser
http://bit.ly/963VBA
Noruiel Roubini said Jan 27/10:
“Greece is bankrupt,” Roubini told CNBC.com.
“Look, they have to ask China to help them out. Greece is trying to get trying to entice China to buy 25 billion euros ($35 billion) in bonds, according to published reports Wednesday.”
http://www.cnbc.com/id/35094038
The French and Germans, acting jointly, want a formal economic European structure to correspond to the euro.
The French and the German see the crisis as a way to get there. They can only look favorably to the euro being a bit less over-valued.
Contrarily to the mood in the USA, it’s far from being all about Germany. Germany alone, that’s a big country. With France, it’s a super power, with the vision thing. The euro was not just a French idea, and a French proposition, but a French imposition.
PA
Well all the investment banks, hedge funds, and other speculators seem to be betting against the EU and Greece is the first domino. They are buying credit default swaps and no doubt naked short selling bonds.
The “market” overreacting may well be a bear raid.
The presumption that there is a “market” anymore should be considered.
Greece Still Slippery
2/12/2010 07:23:00 PM – by CalculatedRisk – excerpt
From the Financial Times: Greek austerity ‘comes before any bail-out’:
“[A] senior [German] government official insisted European Union leaders had not given Greece any firm promises of financial assistance, he said they had signalled the possibility of help once the government of George Papandreou had implemented a tough and sustainable austerity programme.
excerpted with permission. Originally investors expected a detailed plan early next week when the eurozone finance ministers meet, but now it appears there will be no plan released.”
Hippocrates wrote: (460 BC – 377 BC)
“To do nothing is sometimes a good remedy.”
3000 Dow In 2010: Is He Mad? – Huffington Post – excerpts
“In early March of 44 B.C., a soothsayer warned Julius Caesar about the Ides of March. Unfortunately, Caesar ignored the warning, and we all know the rest of the sad tale.
Harry Dent Jr., a former consultant to Fortune 100 companies and presently publisher of HS Dent Forecast, a monthly investment newsletter in Tampa, Fla., sees a similar kind of fate for the stock market, although he has expanded the time frame of his Ides of March scenario to somewhere between early March and late April.
Basically, Dent sees a series of “ticking time bombs,” both here and abroad that will intensify world-wide financial turmoil.
Let’s start with one of the stock market’s biggest current worries, European debt fears, which embrace such countries as Greece, Portugal, Spain, Ireland and Italy. Dent takes these financial concerns a couple of frightening steps further. He not only sees massive debt crises in the U.S., Europe and east Asia, but a series of defaults, as well, in Latin America, the Middle East and Africa due to a commodity bust which he believes will worsen into at least early 2013 and possibly into early 2015…
His wrap-up advice to his newsletter subscribers is ominous. In brief: “Get ready for the most extreme two years of your lifetime–the debt crisis of late 2010 to late 2012. If you raise cash by selling assets, cutting costs and focusing on your business (or selling it), you will be highly rewarded.”
http://tinyurl.com/yey3afd
This is, of course, a really tough one, judging from the fact that the Greek government seems not to want any intervention (kind of like an addict), and its populace seems to be resisting all governmental efforts to “bridge” its financial gap. Of course part of the problem with a uniform currency is that countries with economic issues (i.e. the PIIGS) are going to drag the currency down, and exascerbate the already dismal performance of the widely held derivatives that plague the international financial community. I would further note that a lot of the new derivatives are based on currency hedging, and are likely to be the first to have serious problems. Since the G7 seems unlikely to find a solution concensus, it appears that this problem will likely grow beyond an easy cure, and maybe it’s just time to let it all go and start over. And then there’s China…..
A wise man said, wisemen speak because they have something to say; and fols because they have to say something.