Global Agenda: The financial Trojan horse

Greek insolvency would inflict such large losses on so many financial institutions, that they would themselves collapse and have to be nationalized.

By PINCHAS LANDAU
May 26, 2011 22:54
4 minute read.
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globe. (photo credit: kkl)

 
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The Greek economic crisis is now some 18 months old, and a full year has passed since that crisis swelled to the point that “peripheral,” “marginal” Greece looked like sinking the entire euro project. A $1 trillion rescue package cobbled together last May was supposedly designed to prevent that.

More correctly, that package was supposed to buy time; in the now very overworked phrase used for most financial rescue packages, it was actually designed to “kick the can down the road.” It turned out that it bought little time and did not get the can very far down the road. But subsequent tweaking of the terms of the package squeezed out a little more time and kicked the can a little further.

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Yet here we are in May 2011, and it is now abundantly clear to everyone that, so far from being eliminated or at least reduced, the threat posed by Greece is as great as ever – indeed, greater. To understand why, it is first necessary to explain how it is that Greece – a very small component of the European Union and of the euro bloc, whether in terms of GDP, population, or any other measurement – has come to pose so great a threat.

Where Greece punches well above its weight is in the size of its debt. This is massive, not just relative to the size of the country’s economy – and hence its ability to service that debt – but even in absolute terms. Russia in 1998 and Argentina in 2002, the two largest and most damaging sovereign-debt crises in recent years, both defaulted over much lower total debts than Greece has. What they had in common with Greece, though, is that their debts were mostly held by foreigners.

In Greece’s case, its debts are largely on the books of European banks, especially German, Swiss and French ones. That explains why Greece today is more significant than those much larger and intrinsically more important countries were: The threat it poses to its creditors, if it is declared bankrupt, is much greater.

This is the nub of the Greek crisis: A Greek insolvency would inflict such large losses on so many financial institutions – including many, if not most, of the largest financial institutions in Europe – that they would themselves collapse and have to be nationalized. Given the degree of interlinkage between financial institutions, it is quite possible that the bulk of the European banking systems would end up being nationalized – with ensuing losses to their shareholders (totally wiped out), their bondholders (heavy write-downs) and, very likely, to their depositors as well (some degree of loss).

This is a much worse scenario than the one that followed the Lehman collapse in 2008. It is virtually inevitable that this catastrophe would not stop at the shores of the English Channel or the Atlantic Ocean, but would spread to the UK, US and the rest of the world. Furthermore, since a Greek bankruptcy would almost certainly be emulated by Ireland, probably by Portugal and possibly by Spain, the fate of the British banking system (already owned half by the state and partly by Spanish banks) is hardly in doubt in this scenario.

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All this was clear a year ago, and it explains why such great efforts were made to: a) put together a rescue package; b) get the IMF, and hence indirectly the US government, to participate in the rescue; and c) make the Greek government and people agree to very nasty medication in an attempt to enable their economy to eventually, somehow, repay its debts.

A year later, it is clear that a) and b) have proven insufficient, while c) is becoming increasingly difficult. The Greek people are less and less willing to endure an openended austerity program aimed at repaying money to German banks they believe should never have been stupid enough to lend in the first place. In a parallel political process, the German people (and those in other European creditor countries, even small ones like Finland) are less and less willing to lend more to the Greeks and others, to whom they should never have been stupid enough to lend so much in the first place.

In a nutshell, the ability of the financiers to avoid disaster (by “kicking the can down the road”) is being steadily curtailed by the changing political mood in Europe. That is why the discussion now assumes Greece will default and is focused on what is basically “damage control.”

But it is too late for that – because of that accursed rescue package cobbled together in haste last May. Under its terms, the European Central Bank was forced to agree to accept Greek government bonds at full value. Today they are trading far, far below full value.

When the now-inevitable bankruptcy comes, the ECB, like the European commercial banking system itself, will sustain losses greater than its capital, and it will be bankrupt. The central bank, too, will have to be saved. But that will only happen in the increasingly unlikely event that the European public countenances the continuation of a monetary union that has failed.

landaup@netvision.net.il

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