Wednesday, June 27, 2012



It is impossible to overstate the seriousness of the situation that is developing in the Euro Zone, and its implications for the EU and the rest of the World.

The unwillingness of bankers and politicians to face up to the real issues for years,  have ensured that all the problems have come together in a perfect storm, in a matter of weeks. What started as a localised banking crisis  has mutated into a pan European banking and sovereign debt crisis.

The lifeblood of the financial system is the Bond market. These vast pools of money finance Governments, banks and businesses alike. In normal markets bondholders are usually stable, low risk, long term investors. Today they are unwilling to invest as they perceive great risk, in governments with unsustainable debt loads, and deficit spending, and banks with wildly overvalued assets on their books. The endless downgrading of banks and countries by ratings agencies is a manifestation of the problem.

The Greek, Portuguese and Irish stories are well known, however in the last few weeks Spain and Italy have come into play.

So far the EUR 200 Billion EFSF rescue fund has been mobilised, and plans are in hand for a further fund, the ESM of EUR 440 Billion,  to replace the EFSF in July 2012. This has neither been ratified nor funded with less than a week to go. If this fund becomes operational, its resources are barely sufficient to bail out the small countries, leaving virtually nothing for Spain and Italy.

The Spanish government have requested aid of EUR 100 Billion for their banking sector, although once a bank is nationalised, the distinction between the state and the bank disappears. Most realistic estimates of the banking sector requirements are closer to EUR 400 Billion, without counting EUR 100 Billions more, to fund state and regional government deficits.

In Italy, although there is not such a real estate driven banking crisis, the country has a Debt/GDP ratio of 180%, and a very short debt repayment schedule.

The real problem as always is cash flow, as both countries have debt repayment schedules to respect, without which they will default. At present short term bond yields are skyrocketing, and 10 year yields are approaching 7%, which with current debt levels makes refinancing economically unsustainable.

The amounts of refinancing required  in the next three years, for Spain and Italy alone, plus  their major banks, substantially exceeds EUR 1,000 Billion. Some observers even quote higher numbers.

The question then is who can pay EUR 1,500 -2,000 Billion, (Spain;Italy;et al), to stabilize the market.

The politicians, like drowning men clutching at straws, say Germany.  The Germans already have a debt/GDP ratio of 80% and while they could find say EUR 500+ Billion, the remaining EUR 1,000 – 1,500 Billion would put them also in serious difficulties.

In short Germany is absolutely not capable of bailing out the EuroZone on its own, without self destructing. This is something never stated in the main stream media.

There are various “solutions” to the problem:

  • Issue joint liability Euro bonds, to replace the existing sovereign debt, at a much higher rate for Germany, and much lower for the other members. This is Pan European socialism, and Mrs Merkel has said “not as long as I am alive”
  • Allow the ECB to act as “lender of last resort” a euphemism for printing money, and flood the market with liquidity, and buy up all unwanted  bank and Government debt. This is not currently allowed in the ECB charter
  • Do nothing and allow countries which cannot pay their bills to default and leave the Euro zone; and allow banks that cannot roll over their debt to go bankrupt. Let countries return to their own currency, devalue and let the resulting losses fall on the core countries and their banks
  • Enlist the aid of the Fed by massive Currency swaps, already ongoing, or the IMF who would love to be involved, to bail out virtually all of the EU countries.
  • A mixture of the above could also be envisgaed

The above explanations are greatly simplified, and there would be various strings attached to any such solutions, such as fiscal union, political union, a real central bank etc. all of which have been bandied around completely ineffectually for months. Many would require new laws treaties etc. before implementation.

All would place sovereign European states under tutelage, subject them to IMF style asset stripping, as in Greece etc. and have powerful inflationary effect.

The overall debt would increase yet again, ie long term it would solve nothing,  and the means of repayment still remain completely undefined. It has all the potential of leading to an even greater collapse after a hyperinflationary period, as in Weimar Germany.

While states still have the luxury of discussing, total confidence has been lost in the banking system. In Spain, and increasingly in Italy  the banks are bleeding colossal amounts of cash on a daily basis. This coupled with their unfinanceable bond repayment schedule, is literally tearing the banks apart and bringing them to their knees at lightning speed.

Regrettably, barring a miracle, the banks have run out of time. We are in all probability only days away from the present “phantom” bank runs being clearly visible in the high streets of several vulnerable European countries.  The Nat West story in the UK may indeed be a cover up for the fact they ran out of cash, literally and not just digitally.

The final trigger for a wider collapse, will be the failure of a major European bank. Whichever one it is will be irrelevant, as their interdependency  will cause total panic and an avalanche of defaults.

The truth is the politicians have lost control and the most powerful market forces in the world, those of the bond market have taken over. This Mr Draghi understands very clearly and has said as much publicly, although he has also said that the ECB cannot be a substitute for a political policy vaccum.

To  reverse this situation before a full scale banking collapse takes place is a EUR 2,000 Billion gamble,  where for the moment nobody  has the chips, and it is not even clear who is at the gaming table.

If the end of this week does not produce an unequivocal  policy response on this level, then the ordinary citizen must work on the assumption of an imminent,  and possibly simultaneous banking system collapse, in the most vulnerable countries and prepare accordingly.

The next post will develop further the key steps to protect you against bank failures, and bankruptcies, prolonged bank holidays, capital controls, and all the tools typically used by failing regimes to expropriate or harness  the wealth of citizens to ensure their own survival.

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