George Soros has been saying much that is right about Europe for at least the past year. (I have had the opportunity to comment on his musing, mostly approvingly, on a number of different occasions – see for example here and here). His latest piece in the FT (A route-map through the eurozone minefield) is a must-read for all those who want a glimpse of the desperate depths to which Europe has managed to plunge. It is almost as if Soros has given up hope that Europe can do what is right for itself and he is struggling to egg our politicians on to do, at least, that which will buy them additional time in which to reconsider their ways. And all that at a juncture where Soros understands better than almost anyone that we are past time-buying…
Soros’ starting point is that European leaders are incapable of doing that which can end the Crisis’ terrible momentum: Recapitalise the banks centrally (as opposed to a country by country basis) by means of turning the EFSF into a euro-TARP (as we suggested ages ago in our Modest Proposal), creating a mechanism for re-financing the currency union’s sovereigns (via some form of eurobonds), thus guaranteeing that Italy and Spain do not go under, and, last bur definitely not least, implement an investment policy to stimulate demand at a European level.
So, in view of our leaders’ ‘incapacity’ to do the right thing, what is Soros proposing in order to stop the euro-system from goinf belly up within the next few weeks or, at best, months?
- First, he is proposing that we put bank recapitalisation aside for the moment, placing the idea in the ‘too hard basket’ and, instead, have the ECB issue a blanket guarantee of the banks in exchange for the right to direct the banks to keep lending the private sector.
- Secondly, regarding the task of keeping Italy and Spain afloat, Soros suggests that (a) the ECB drops its interest rate from1.25% to almost zero (e.g. 0.25%), and (b) the member-states issue new bonds that the private banks are instructed (as part of the same deal described in the above paragraph) to buy at very low interest rates on the basis of a promise by the ECB that the ECB will immediately accept these bonds as collateral, thus promising to turn them into instant cash for the banks. As long as the new bonds had an interest rate above that of the ECB, the banks would find the whole scheme attractive.
- Thirdly, and I quote: “During the emergency period fiscal retrenchment and austerity are unavoidable. But the debt burden will become unsustainable without growth in the long term – and so will the European Union itself.”
This is a pretty desperate triptych. It is desperate because Soros must surely know that offering a blanket guarantee to our bankrupt banks is equivalent to a declaration that capitalism is well and truly over. It is one thing to keep the banks liquid via the ECB or to bail them out in exchange for equity and it is quite another to do at the level of the eurozone what Ireland did, foolishly, with its own inane banks: Unconditionally to socialise all their future anti-social behaviour.
Let me, nevertheless, give Soros the benefit of the doubt and accept that desperate times call for desperate measures. Would his guarantee work? I think not. First, Soros’ hope that such a guarantee would be only the first step before the eurozone can get its act together and recapitalise the banking sector at a pan-European level, seems pie in the sky to me. Emboldened by this enormous lease of life, the banking sector will find room and energy to organising massive resistance against any recapitalisation move. If they can do this now that they are almost down and out, imagine their licking and screaming after have been guaranteed for a year or so by the ECB. Secondly, the notion that, while under the ECB’s guarantee, the ECB will be in a position to instruct the banks to extend credit to business seems extremely optimistic. Put simply, the ECB is afflicted by too much asymmetric information vis-a-vis the banks on matters related to their particular loan books. What the bankers will do, besides cosmetic moves, is take the guarantee, use it in order to concoct new derivative deals and, in essence, maintain their credit strike.
Moving on to Soros’ suggestion regarding Italy and France, the essence here is that the ECB lowers interest rates substantially and guarantees that it will accept as collateral bonds that the banks will be forced to buy, at low interest rates (albeit rates that are higher than those of the ECB’s overnight rate). In effect, the ECB will considerably expand the money supply and indirectly finance the Italian and Spanish states. Will this fly? Not on your (or our collective) Nelie! Germany will simply not wear it. Not even under the threat of the eurozone’s collapse. Berlin will rather reconstitute the DM than go down the road toward a monetisation of sovereign debt that will cut to shreds the very essence of Germany’s postwar model.
Summing up, neither of Soros’ stop-gap ideas emit the hope that he intended to spread. The first one, the bank guarantees, will simple embolden the banks to continue as zombies ad infinitum. The second one runs against the very grain of Germany’s psyche. Neither will get the eurozone out of the woods either due to failure or to German resistance. Meanwhile, the markets are being told that within a week Europe will have produced a definitive plan for providing a backstop for banks and sorting out Italy’s and Spain’s refinancing woes – all that to the tune of a turbo-charged EFSF. Miracles will never cease…