Tuesday, June 28, 2011

Is the EU worth it for the victim countries?

Reuters/Athens News: EU warns Greece rejecting austerity means default 06/28/2011. The EU Troika (EU Commission, European Central Bank, IMF) is demanding new austerity (self-impoverishment) measures of the Greek Parliament in terms reminiscent of the famous "making you an offer you can't refuse." Reuters:

With the Greek parliament debating a raft of spending cuts, tax rises and privatisations, the EU's top economic official, Olli Rehn, dismissed reports that Brussels was working on fallback options to keep Greece afloat if the plan was rejected.

"The only way to avoid immediate default is for parliament to endorse the revised economic programme ... They must be approved if the next tranche of financial assistance is to be released," he said in a statement.

"To those who speculate about other options, let me say this clearly: there is no Plan B to avoid default," Rehn said.

The blunt alternative was underscored by Bank of England Governor Mervyn King, who told British parliamentarians that policymakers were working on ways to limit the damage from a potential default on Greece's 340 billion euro debt pile.
There have even been demands from Troika that not only the majority Pasok Party (Socialist Party) but the main opposition party, the New Democratic Party, approve the ruinous austerity measures.

What makes the whole scene so ugly and appalling is that investors and creditors have been clear for months that the full Greek debt isn't going to be repaid. Greece started imposing severe austerity measure last year and, as elementary Keynesian macroeconomics could and did predict, it shrunk the Greek economy. By simple algebra, this meant that the percentage of Greek debt relative to its gross domestic product increased, therefore making Greece's credit-worthiness worse. But the Troika wants to keep applying even more of the same medicine. And they want the elected Greek Parliament to not only approve the new self-destruction package, but they want them to grovel and pretend they like it.

Here is what (little) sense there is in this disastrous course:

Eurozone banks and insurers are considering a French plan outlined by President Nicolas Sarkozy on Monday under which private bondholders would reinvest half of the proceeds of maturing Greek debt in new 30-year bonds paying 5.5 percent interest plus a bonus linked to Greece's GDP growth rate.

Of the other half, 30 percent would be cashed out and 20 percent would be invested in zero-coupon AAA securities with deferred interest that might be issued or guaranteed by the eurozone rescue fund, officials and banking sources said.

French banks have the largest foreign private sector exposure to Greece, followed by Germany. German bankers voiced interest in the "French model," while credit ratings agencies withheld comment pending details of the scheme.

Standard & Poor's said on Monday it was too soon to judge the ratings impact of the private debt rollover being put together for Greece, which it had not yet seen, but did not rule out avoiding a downgrade to default.
Taxpayers in Germany and France are being required to put up money to bail out Greece in a plan that will not work. Greece is being forced by its alleged democratic partners in the EU to adopt an austerity program that could literally wind up reducing Greece to something like the status of a poor developing country. And all for the purpose of minimizing the losses that private French and German banks take in the inevitable default.

Every delay in recognizing reality and writing off the debts increases the total losses that somebody takes. The Troika and the conservative governments in Germany and France are trying to shift as much of the eventual loss to the public and shield the banks.

To fully grasp what's going on, one has to keep in mind that banks based their lending on calculations of risks. Interest rates are set based on the amount of estimated risk. Reserves are determined based on the amount of estimated risk. If major banks are at risk, it's because they have done a poor job of estimating and planning for their risks. In countries like Germany and France with private banking systems, banks need to take the business consequences of their bad business decisions and gambles: loss of profits, even bankruptcy. Germany and France can put banks that fail through bankruptcy procedures and prevent their failures from wrecking the finance systems of their countries. Iceland fairly recently had to do that on a large scale when they came under attack by bond speculators like Spain, Ireland and Portugal have.

But the Troika's current course creates a classic situation of "moral hazard." They are saving the giant banks from the negative consequences of their bad business decisions, insuring that such institutions will continue to underestimate their real lending risks on the (justifiable) assumption that their government and the Troika will bail them out. The banks are considered too big to fail. Greek prosperity and Greek democracy aren't nearly so valuable in the Troika's perspective.

This is awful. Even Euro-skeptics in EU countries still feel it necessary to make ritual professions of how they really really wanted the EU to work, and how sad they are about what's happening. I don't know the writer's past perspectives on the "European project." But this article by Martin Kettle, Greece, Schengen, Nato – it's time to admit the European dream is over The Guardian ,certainly has some of the tone to which I'm referring.

But the formation and development EU has been one of the most promising developments for democracy and peace in the last 20 years, even the last 100 years. The current very ugly transformation of the EU into a collection agent for incompetent bank CEOs is a genuine disaster.

Oh, and given the exposure of not only French and German banks, but our own American banks thanks to their reckless assumption of credit default swaps gambling on Greek debt, this mess could wind up bringing on another global financial collapse.

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