FYI | May 10 2010
By Greg Peel
It's as easy as T-A-R-P but without as much of the moral hazard. History will record that US Federal reserve chairman Ben Bernanke and then Treasury secretary Hank Paulson failed to appreciate the magnitude of the building private sector debt crisis in 2008, erroneously assuming the March rescue of Bear Stearns was enough to quell the storm. By September they had also saved Fannie Mae and Freddie Mac, AIG and General Motors. Lehman Bros was one step too far. The Global Financial Crisis ensued.
History will record that the member states of the European Union in general and the European Central Bank in particular failed to learn any lesson from 2008 when faced with a similarly growing problem – this time in the realm of public sector debt – in 2010. They dithered, they debated, they fought, they postured, but they failed to act swiftly with regards to Greece. Contagion would never occur among the eurozone members, they declared, just as Lehman Bros' demise was never assumed beforehand to be possibly quite so destructive.
Investors spent last week nervously thinking “oh no, not again” as stock markets around the world plummeted. But one might argue that this crisis is actually the same crisis and realistically 2009 was just the eye of the storm passing overhead. The world has not massively reduced its debt burden since 2008, it has simply passed the ball from the private sector to the public sector. This is possibly tenable if you are the United States, but not if you are Greece. Or for that matter Portugal, or even Spain.
That nothing had been learned in such a short period of time is remarkable. One investment bank going down won't hurt too much they said, in 2008. One little Mediterranean economy can't be too much of a problem they said, in 2010.
But it is. So just as Bernanke and Paulson cooked up the Troubled Asset Relief Program over one weekend in September 2008, the EU has been forced to do the same in 2010.
On Friday night the German parliament passed a bill required to legalise Germany's participation in the E110bn specific Greek bail-out. This was a major hurdle overcome. On Sunday, the European Commission swung into action. The EC had previously established a balance of trade protection fund for those EU members still trading under their own currencies and not as part of the eurozone (numbering 11). That fund has now been extended to include all eurozone members (16) and has been boosted from E50bn to E110bn.
This was the first initiative to come out of the emergency meeting of EU finance ministers being held in Brussels on Sunday. We had to wait until mid-morning Sydney time to learn ratification of another package, this time the biggie. The finance ministers announced a euro currency protection fund worth, in total, E720bn. That's over one trillion Aussie.
The EC will immediately make E60bn available while the eurozone member countries have promised bilateral backing for E440bn. The International Monetary Fund will further chime in with E220bn. There is no word yet on just what legislation must be passed in individual EU parliaments to make all of this happen, nevertheless.
And then there's the ECB.
In late 2007, when the subprime crisis was beginning to impact on global financial markets and the Fed had begun to slash rates, the ECB decided to put its rate up, from 4.00% to 4.25%. There world was gobsmacked. But it wasn't long before the ECB was back-peddalling frantically and slashing like everyone else.
Earlier this year when the Greek situation was out of hand, ECB president Jean-Claude Trichet railed against any IMF involvement in an EU rescue package. Germany had called in the IMF given the government didn't feel it was up to frugal German taxpayers to bail out profligate Greece. Trichet suggested IMF involvement in the eurozone's affairs would undermine the euro as a viable alternative reserve currency. But it was all too late anyway, and a day later Trichet was praising IMF involvement.
Next Trichet strenuously rejected any notion he would extend special emergency loans to Greece – facilitated through the ECB purchase of Greek bonds – as no eurozone member deserved special treatment. He soon reneged on that one too.
And having done so, the world then assumed last Thursday's regular ECB monetary policy meeting would bring news of the ECB purchase of all eurozone bonds where necessary in order to stop the Greek contagion to the likes of Portugal and Spain. “The subject wasn't even discussed,” said a disingenuous Trichet, after having clearly discussed the subject. This was another stupid act by the ECB, and again the world sold down European markets and the panic spread across the globe.
Then lo and behold, the latest news today is that the ECB will now do exactly that.
"The Governing Council decided to conduct interventions in the euro-area public and private debt securities markets to ensure depth and liquidity in those market segments which are dysfunctional," the ECB said in a statement today. "The scope of the interventions will be determined by the Governing Council."
Furthermore, the Fed has reopened a program so swap dollars for euros (as was established previously in 2008) to help head off any European contagion spreading across the Atlantic. Central banks in the UK, Switzerland and Canada have also pledged support while the Bank of Japan is considering its role. Naturally the ECB is on side.
European finance ministers have pledged to defend the euro at any cost – finally. It's only taken five months of procrastination. Stock markets across Asia have responded to the last ditch rescue in trading today with the ASX 200 up 2% as I write. At last count, S&P 500 futures were trading up 2.5% in the electronic market.
Perhaps what we can take from all of this is that whatever the next incredibly stupid thing the ECB does might be, there is no point in panicking. The tables will be turned a day or two later. In the meantime, the printing presses will be working overtime across the globe once more, churning out all the new funny money required.
