Jul

23

 After euro leaders announced a new (big) aid package for Greece and measures to prevent bond yields rising further in Spain and Italy, it seems that Europe has solved its sovereign debt problems…. Markets celebrate the European version of QE. Also Europeans (we'll see what Americans will now do about it, but I think the answer is pretty clear and markets know it) can now delay any tough decisions on deficits. Someone else will pay the bill. Pretty sad. However, markets go up and everybody is happy so far.

Kim Zussman writes:

Do not recall the oft-heard warning that a Greek default or failure to raise US debt limit will result in financial Armageddon prior to the Lehman collapse. That not yet distant memory still has usable power. Perhaps a day's meal in that.

Bruno Ombreux writes:

The 100s of billions will mainly come from the pockets of the German, French and Dutch taxpayers, since the ECB printing powers are limited. As for the Greek, they have lost their sovereignty but they will find freedom though work. You know. Arbeit macht frei. That is at least for the next few months until bailout 3 is needed and the whole show starts again.

Also, about the question from the bleachers: How are the ECB's "printing powers" more limited than the U.S. Federal Reserve's?

read this: European Central Bank

They need to maintain some capital and this capital is provided by the central banks of the member states. They cannot do too outrageously stupid things, because they can get bankrupt if some member state central banks stop capitalizing them.
And you can be sure that the German or Dutch have an uncle point.

Politically, the ECB is also far less inclined to print than the Fed:

- It has only one mandate, low inflation, whereas the Fed has a dual mandate: inflation and economic growth. In effect, the ECB doesn't really care about economic growth. - The German have been paranoid about inflation since Weimar and would not let the ECB go too far. - If you look at the ECB board, it is predominantly hawkish according to analysts and observers that spie every word uttered by these guys.

But the main reason they have less power to print than the Fed is that they have to please a lot of member states. Which creates checks and balances. Whereas the Fed only has to please one guy, the US president, who nominates board members.

John Floyd adds:

Leaving any debates on what is considered QE and what is not.

The ECB has lent to the periphery through its rediscount window Euro 330 billion, this is in addition to the Euro 75 billion in secondary market purchases of peripheral country bonds. The ECB has a capital cushion of about Euro 10 billion. One could argue this might be a stretch of the single mandate of the ECB's 1998 charter.

To Ireland alone the ECB has exposure of Euro 180 billion, or about 100% of Irish GDP.

Other thoughts on the most recent Euro summit:

The general reaction in markets and the street research has been this plan delivers slightly more than expected and is a bold plan. Not surprisingly this has been the analysis of most of the rescue packages globally since 2008. Yet, the failure of the packages on so many levels is fairly evident if one looks at economic growth, interest rate spreads, etc.

The most recent package clearly will buy some time. How much is an open ended question but I expect much less than previous packages as the Pavlovian reaction wears thin.

Amongst the many issues of implementation, political approval, private sector etc. I think the key failings are:

1) There was no increase in the size of EFSF. Furthermore, even the relatively paltry and debatable rating of current EFSF has yet to approved. To cover Spain and Italy would require 1.5-2.0 trillion Euros.

2) Concessions on rates and maturity extensions for Ireland and Portugal are nice but small relative to the fiscal adjustment required.

3) The debt relief to Greece is insignificant and will bring debt to GDP from 172% to around 150-160%, depending on whose estimates you are using.

4) Given that there is not much debt relief and the fiscal adjustment is massive there cannot be much hope that the domestic political willingness in Greece will be there to stay the course.
 


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