By: R.A – The Economist
IN THE wee hours, euro-zone leaders put together a deal to try and arrest the crisis disrupting their economies:
The result was better than some had dared hope. Just a week earlier the summitry had seemed doomed, with Angela Merkel, the German chancellor (left above), rejecting a push by Nicolas Sarkozy, France’s president (right above), to boost the euro zone’s bail-out fund by allowing it to borrow money from the European Central Bank (ECB). Unable to cancel a summit planned for October 23rd, the leaders decided instead to call a second one three days later. The ruse worked; the discussions, said one participant, had gone “from worse to bad to better”. Markets rejoiced…
The package consists of three connected parts: reducing Greece’s debt to a sustainable level by a “voluntary” agreement with private creditors to accept the loss of half the value of the bonds, in exchange for safer debt; recapitalising Europe’s banks to the tune of €106 billion ($146 billion) to help them absorb the losses on Greek and other distressed debts; and creating a €1 trillion firewall to prevent the spread of panic to vulnerable, bigger but still-solvent states, above all Italy, the euro-zone country with the second-biggest debt burden. In the word of one well-placed source, “the more zeroes the better”. The trouble is, the more zeroes are added, the more holes are likely to be found in the plan…
In the end, negotiations settled on a bond exchange that will cut the face value of Greece’s debt to private creditors by half. Although the numbers are sketchy, it appears that Greece’s partners will have to lend €100 billion more than the €109 billion they promised in July. Details of the bond exchange have still to be negotiated with the banks, but it is hoped that it will take place early next year. Taken with the concessionary terms agreed on in July, the package gives Greece its best chance yet of emerging from the crisis. “We finally see hope,” said one Greek official.
Click through to read the full details. Markets are ecstatic, though that may be more a sign of the lowness of previous expectations than the quality of the agreement (which is, of course, quite vague at this point). At least two big questions hang over the plan as announced. One concerns bank recapitalisation. The plan calls for it, but if the banks are unable to raise sufficient money on their own, then governments will need to get involved. Governments are sure to prove reluctant while markets seem chipper, and so it´s likely that recapitalisation will proceed too slowly until markets begin attacking one point or another, at which point either the sovereign or the EFSF will be called upon to fill holes and save the day.
That brings us to the EFSF. There is a great deal of attention being paid to the size and structure of the emergency fund. In plans that will be set out in coming weeks, the emergency fund could be bolstered through tricky financial engineering designed to leverage up the existing €440 billion in capital (governments are unwilling to chip in more of that). The hope is that an attractively structured firm will carry more firepower (up to €1 trillion per this agreement) which will calm sovereign debt markets, and could potentially attract other money from outside the euro zone, including, perhaps, from China. However the plan comes together, however, it will succeed or fail on the strength of the sovereigns backing it. That´s a dicey proposition, particularly given the large potential claimants on the fund´s resources. Lurking behind the fund, then, is the ECB. The EFSF will be fine to the extent that the ECB stands behind it, but then one has to wonder why the ECB wouldn´t just stand behind the debt directly (as it has done, but only to a limited extent). One of the continuing sources of awkwardness within the discussions is the fact that an ECB which behaved as a national central bank would, and acted as a buyer of last resort, would mostly resolve the crisis. But the ECB zealously guards its independence. And so the euro zone´s leaders tip-toe toward a mildly satisfying temporary solution, in hopes that the ECB will pick up the slack.
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