Financial Balancing Measures Could Be Damaged By Emergency Euro Deals

Last week’s episode of the saga that is the euro crisis was a cliff-hanger of a drama.  That drama is set to continue. Is a Greek tragedy in store, after all?

The long-awaited announcement that the European bail-out fund would be increased to a trillion Euros sent equity markets up to pre-crash levels. Banks rallied – some, such as the UK’s Barclays, by as much as 20 per cent. A huge sigh of relief was exhaled from Tokyo to New York.

Days later, the market wasn’t so sure. By the month end – October 31st, fittingly, the market had become truly ‘spooked’. News a Greek referendum could see the country choose to default on debt, despite the best efforts of Euro leaders to save it, sent markets into fresh free fall come Tuesday morning.

In effect, the market is hundreds of thousands of people voting on finance and economics matters every day. It is like a huge, real-time confidence poll of all things material. This makes it a formidable foe for anyone wishing to stave off reality. As such, the market quickly becomes the enemy of those in power fighting the consequences of past mistakes.

In every crash, it is always scape-goats such as traders and bankers that are blamed, never the creators of the original bubble. In this vein, we have yet to hear anyone in government pilloried for building up the gargantuan debt that’s now sinking Europe. Instead, we have a lot of unhappiness that the party’s over and someone has to foot the bill.

The latest idea spreading the market is the so-called ‘law of unexpected consequences’ implying law makers need to be careful they do not create ‘monsters’ as a spin-off of their decisions. It is clear there is going to be plenty of ‘monsters’ lurking in the shadows as the sovereign debt crisis continues to unfold.

One such ‘monster’ could be the destruction of credit default swaps (CDS), an insurance for the kind of financial meltdown happening in Greece. The euro bail-out for Greece (if it goes ahead) in effect invalidates the CDS market by claiming that somehow, magically, Greece is not in default and therefore CDS contracts should not pay out to those insured by them. May CDS holders would then see the insurance as a worthless piece of paper.

In consequence, pension funds and banks will no longer be able to give up some of their bond yield in return for insuring the capital against government default. This will make bonds less secure and institutions more hesitant to lend to countries. Interest rates and lending costs will rise for everyone.

The solution to the Euro crisis is for lenders to relax and start allowing countries such as Ireland and Portugal to start borrowing again. The CDS debacle, however, looks likely to set this back and create the opposite of what is hoped for.

Top this with Italy’s need to borrow 500 billion euro in the next 18 months and you can see why the saga of the Euro is not yet over.

While titanic issues of sovereign bonds and exchange rates roil global economies, equities markets are pulled around like rag dolls between pit bulls. Share markets are just terrified passengers riding in the jump seat alongside an out-of-control sovereign bond driver.

The pivot for all this is Italy, which is currently paying 6 per cent to borrow money. In itself, this is not such a big deal, yet the country has to refinance about 10,000 euros of debt per head of the population in short order. It carries approximately 120,000 euros per family of government debt on its back.

These are the scale of numbers making up the core of the Euro debt problem and presenting a threat to the US and Japan. Just like any chronic borrower, if countries don’t stop borrowing it eventually becomes impossible to escape the quicksand of debt.

We shall soon find out whether Europe has the leverage to drag itself out of trouble, or whether it has just bought itself a temporary halt to the slide into the mire.

In This Story: Greece

Greece is a country in southeastern Europe with thousands of islands throughout the Aegean and Ionian seas. Influential in ancient times, it’s often called the cradle of Western civilization. Athens, its capital, retains landmarks including the 5th-century B.C. Acropolis citadel with the Parthenon temple. Greece is also known for its beaches, from the black sands of Santorini to the party resorts of Mykonos.

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    Ireland is an island in the North Atlantic. It is separated from Great Britain to its east by the North Channel, the Irish Sea, and St George’s Channel.

    Geopolitically, Ireland is divided between the Republic of Ireland (officially named Ireland), which covers five-sixths of the island, and Northern Ireland, which is part of the United Kingdom. As of 2016, 4.8 million people live in the Republic of Ireland, and 1.8 million live in Northern Ireland.

    The Irish climate is influenced by the Atlantic Ocean and thus very moderate, and winters are milder than expected for such a northerly area, although summers are cooler than those in continental Europe. Rainfall and cloud cover are abundant.

    A strong Irish culture exists, as expressed through Gaelic games, Irish music and the Irish language. The island’s culture shares many features with that of Great Britain, including the English language, and sports such as association football, rugby, horse racing, and golf.

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    Italy is a republic in central Europe which forms a peninsula in the Mediterranean Sea as well as bordering France, Switzerland, Austria and Slovenia. The islands of Sardinia and Sicily form part of the main territory of Italy. Italy is part of the Eurozone, having entered the common currency on 1st January 1999.

    The capital, Rome, is home to the Vatican as well as landmark art and ancient ruins. Other major cities include Florence, with Renaissance masterpieces such as Michelangelo’s “David” and Brunelleschi’s Duomo; Venice, the city of canals; and Milan, Italy’s fashion capital.

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    Japan is an island country in East Asia located in the northwest Pacific Ocean. Part of the Pacific Ring of Fire, Japan comprises an archipelago of 6,852 islands covering 377,975 square kilometers (145,937 sq mi); the country’s five main islands, from north to south, are Hokkaido, Honshu, Shikoku, Kyushu, and Okinawa. Tokyo is Japan’s capital and largest city.

    Japan is divided into 47 administrative prefectures and eight traditional regions. The Greater Tokyo Area is the most populous metropolitan area in the world, with more than 37.4 million residents.

    Japan is a great power and a member of numerous international organizations, including the United Nations (since 1956), the OECD, and the G7. Japan is a leader in the automotive and electronics industries.

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    Portugal is a southern European country on the Iberian Peninsula, bordering Spain. Its location on the Atlantic Ocean has influenced many aspects of its culture: salt cod and grilled sardines are national dishes, the Algarve’s beaches are a major destination and much of the nation’s architecture dates to the 1500s–1800s, when Portugal had a powerful maritime empire. 

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    The United States is a country also known as the United States of America, USA, US or just America. There are fifty states in the union, which is a federal republic ruled by a representative democracy. Nearly ten million square kilometres are inhabited by over 300 million people. The majority of Americans speak English.

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