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Europe’s Problem, America’s Solution

by John Rubino on December 13, 2011 · 15 comments

Greece has been out of the spotlight for a couple of weeks, which means it’s past due for another market-rattling announcement. And sure enough, today we find out that its economy is shrinking even faster than expected:

Greece Apparently Even Worse Off Than Realized, Hitting Euro, Stocks
This flew under the radar a little bit because we were all waiting with bated breath for the pulse-pounding thrills of the latest FOMC statement, but apparently Greece’s economy is in even worse shape than realized.

“Who could possibly have foreseen that?” asked no one.

Nevertheless, it might be knocking the euro for another loop, although it’s tough to separate out the various actors hammering on the euro today, including the overarching sense of disappointment with last week’s EU summit, the results of which are crumbling as we speak. Recently the euro was down to $1.3026 against the dollar, near its low for the day and pushing critical technical levels.

This “news” has been discovered and reported by the bean-counting minions of the Troika, who have taken on the thankless task of hanging out in sunny Greece in winter to make sure it’s holding up its end of the bailout bargain by getting its fiscal house in shape.

Apparently not so much, reports Stelios Bouras of Dow Jones Newswires:

“The International Monetary Fund sees the Greek economy deeper in recession in 2011 than the government expects and a wider-than-forecast budget shortfall, adding that the country has still a lot of work to do on reforms.

In a country review, the IMF said Tuesday the Greek economy is forecast to contract by up to 6% in 2011, versus Greece’s official estimate for negative economic output of 5.5%, ahead of a downturn in 2012 in the region of 2.75% to 3%. In its fourth year of recession, Greece has already revised lower its growth figure to 5.5% of output for 2011 from a forecast of negative 3.8% earlier in the year.”

What’s more, Greece is not exactly rushing down the road to fiscal reform:

“Among the changes the IMF said Greece needs to adopt in order to return to a growth path are shutting down inefficient state entities, reducing the large public-sector work force, cutting public wage and pension levels and stronger budget control.

‘Greece is still well away from the critical mass of reforms needed to transform the investment climate.’”

Here’s a prediction: The Greek economy is going to continue to disappoint, thanks to these austerity measures and the broader euro-zone recession

Meanwhile, the big European banks have been up to their usual oddly self-destructive hijinks…

Banks Sit in a Tangled Web
Many European Lenders Have Sold Sovereign-Default Protection to One Another

European banks do have insurance against sovereign-debt default, but they’ve sold it all to each other, Laura Stevens reports on Markets Hub.

Dozens of banks across Europe have sold large quantities of insurance to other banks and investors that protects against the risk of ailing countries defaulting on their debts, the latest illustration of the extensive financial entanglements among the continent’s banks and governments.

New data released last week by European banking regulators suggest the risks of banks suffering losses tied to European government bonds could be higher and more widespread than previously realized.

The numbers show European banks have sold a total of €178 billion ($238 billion) worth of insurance policies, in the form of financial derivatives known as credit-default swaps, on bonds issued by the financially struggling Greek, Irish, Italian, Portuguese and Spanish governments. If those bonds default, as some investors fear they might, banks could be on the hook for making large payments to the holders of the swaps.

The banks have at least partly insulated themselves from such potential losses by buying large quantities—roughly €169 billion worth—of credit-default swaps tied to the same bonds, apparently in large part from other European banks, according to European Banking Authority data.

The disclosures highlight another layer of risk interwoven through the continent’s banking system. Already, investor fears about the hundreds of billions of euros of potentially risky government bonds European banks are holding have eroded confidence in the industry, making it harder for many banks to finance their daily operations.

Some analysts and investors say they had assumed that sovereign credit-default swaps, known as CDS, were primarily sold by giant global investment banks in the U.K., France and Germany, as well as in the U.S. Those banks sell the swaps to big corporate clients and other banks and institutions.

But the new EBA data show a surprising breadth of large and small European banks—at least 38 of them—have sold instruments that protect against potential losses on Greek, Irish, Italian, Portuguese and Spanish government bonds.

Deutsche Bank executives say their positions are well-hedged and that they buy CDS protection only from institutions based outside the countries in which the bank is trying to buy protection. In other words, Deutsche Bank wouldn’t buy Italian swaps from an Italian bank.

…for which the US has an ingenious solution:

U.S. Presses Europe for More

WASHINGTON—A full-court press by Obama administration officials fell short of its goals at the latest European summit, and the U.S. is once again pushing euro-zone officials for a much stronger bailout fund to fight the debt crisis.

U.S. officials praised the deal reached Friday at a European Union gathering in Brussels, which would tighten ties between the 17 nations in the currency bloc. It would penalize members that fail to control their budget deficits and would also put balanced-budget rules in place.

The U.S. hopes the pact will make further action by the European Central Bank and other authorities more palatable down the road.

But the Obama administration was disappointed by the lack of progress in bolstering the European bailout fund as the crisis roils financial markets around the world.

U.S. officials want Europe to build a far more powerful firewall to keep the crisis from spreading in the short run. More financial resources would ensure that Italy, Spain and other major economies facing bond-market threats could finance their governments at sustainable interest rates.

The efforts to forge the fiscal pact were “all for the good,” President Barack Obama told reporters here last week. “But there’s a short-term crisis that has to be resolved, to make sure that markets have confidence that Europe stands behind the euro. And we’re going to do everything we can to push them…in a good direction on this, because it has a huge impact on what happens here” in the U.S.

Officials across the U.S. government are in frequent contact with their European counterparts. Treasury Secretary Tim Geithner conducted a rapid run through five European cities in three days last week, meeting with officials from four euro-zone nations and the ECB, all ahead of the EU summit. Vice President Joe Biden met with Greek officials in Athens, while Mr. Obama continued his phone calls to European leaders.

Obama administration and Federal Reserve officials see the euro-zone debt crisis as one of the largest threats to the sluggish U.S. economic recovery.

With an election focused on economic concerns next year, the administration fears that another downturn triggered by European turmoil could depress the U.S. economy and quickly reverse the recent improvement.

In Brussels, European leaders last week agreed to introduce their permanent €500 billion ($669 billion) bailout fund in 2012, a year earlier than planned, replacing a €440 billion temporary bailout facility. But they planned no major expansion in the fund’s total financial resources available.

U.S. officials want the continent to have much more firepower—perhaps $2 trillion or more—available to lend to struggling euro-zone governments. They believe such vast resources would dissuade investors from betting against the countries’ debt and driving up their borrowing costs.

“The sums that you need for Italy and Spain are huge,” said American Enterprise Institute economist Desmond Lachman, a former IMF official. “You can pass the hat around, but the real money is going to come from the ECB.”

Some thoughts
Greece’s finances are deteriorating…what a shock. Who in their right mind would be building factories or hotels or hiring new workers there now? As government layoffs rise and private sector hiring stagnates, tax revenues will obviously contract and national finances will deteriorate. The only solution — leave the Eurozone, devalue massively and watch the tourists pour in — threatens the “insurance” that the big European banks have sold to each other and is therefore unacceptable to the rest of the EU.

Speaking of credit default swaps, what do you think this means?: “Deutsche Bank executives say their positions are well-hedged and that they buy CDS protection only from institutions based outside the countries in which the bank is trying to buy protection. In other words, Deutsche Bank wouldn’t buy Italian swaps from an Italian bank.” Hmm…it’s not clear that Deutsche Bank buying insurance from Spanish banks to cover Italian debt, and then from Greek banks to cover Spanish debt, is all that reassuring. The people running these banks would be Darwin Award candidates if that organization had a finance category.

Meanwhile, “Obama administration and Federal Reserve officials see the euro-zone debt crisis as one of the largest threats to the sluggish U.S. economic recovery.” It’s only a threat because we’re broke. If the US had a healthy balance sheet, a European crisis would be a once-in-a-lifetime buying opportunity. We could be like Warren Buffett, who builds up a mountain of cash in good times and uses it to buy cheap assets when lesser mortals go bankrupt. Instead we’re so fragile that a few troubled banks 3,000 miles away can send us into another Depression.

And about the US pressing Europe for a bigger bail-out: Sometimes (okay, often) it’s embarrassing to be an American. Easy money is the heroin of the financial world and we’re the main pusher. Generally, the pusher wins arguments with his addict clients, so expect a coordinated US/Europe quantitative easing that dwarfs even the Fed’s secret loan program of the past few years, and expect it soon. Get ready, American and European taxpayers. You’re about to become proud owners of several trillion dollars of slightly used Greek and Italian credit default swaps. Merry Christmas!

  • Bruce C.

    The sentence that jumped out at me as I read the last article was this:

    “They believe such vast resources would dissuade investors from betting against the countries’ debt and driving up their borrowing costs.”

    I had two thoughts almost simultaneously. They will be wrong about that. Government plans usually backfire and yield undesirable and unintended consequences. The other thought was, they also don’t care or may even want more chaos. The Obama machine needs only to get re-elected to seal the deal, with low interest rates and the facade of normalcy for another year, then all hell breaking loose will be the catalyst for “real change”.

  • kopavi

    What a wonderful article you quoted John, I could barely stop laughing.
    Greece doesn’t have to do a darn thing to keep the euros flowing in. Greece has it figured out. When the Troika “bails out” Greece, Greece doesn’t get the money, banks in France and Germany do. And what are the chances that the Troika will refuse to send euros to French and German banks? So with each pass Greek debt increases. So what, they will never pay it back. At some point they will default, kiss off all the debt and that is that. No more debt, no more problem. Actually, since Greece has been in default or restructuring 50% of the time since 1820 they understand how it works. As it is, they’ve not defaulted in the better part of 12 years, a record of sorts.
    For the US to tell anyone how to get their economic house in order is an embarrassment and blatant hypocrisy of Olympic proportions.
    And of what value are CDSs in Euroland since with the stroke of a pen they can claim that everyone “volunteered” to take the haircut thereby negating payments.
    Whatever you do, don’t stand in front of any fans in the near future, we’re gonna see a whole bunch of history up close and personal real soon now.

    • Goldman

      The most humorous part of the US telling Europe how to get their finances in order – our head man, Mr Geithner, struggled to figure out his personal taxes owed to the IRS and bought a home shortly before the bubble burst (finding himself upside down on his mortgage).

      • http://www.mindmagic.com Hypnosis Hypnotherapy – Los Angeles

        Not only that, the US lectures the Europeans as if they, the US, are in good shape, rather than the reality that they themselves are attempting to prop up a tottering tower of debt. Followed by bemoaning the fact that the Europeans won’t follow suit. And back themselves into a worse corner down the road. hypnohotshot

  • Sandy

    I don’t get it! How does having a larger bailout fund instill confidence? Having a bailout fund of 2 trillion euros vs 500 billion just tells me that the Eurozone will limp along a little bit longer before another default crisis comes along. You just won’t have to worry about it for another year or two longer, but eventually the problem returns, it hasn’t gone away. The real crisis in confidence is in the leadership. It’s hard to have confidence when we are all being led over a cliff.

  • john

    Ya….funny! If it wasn’t so serious! Millions if not billions of peoples’ lives trashed for a few! This ain’t no movie.

    • Jason Emery

      I’m a bit surprised that Greece doesn’t say something like they promise to pay all outstanding debts, some day, but that for the time being they will suspend interest payments. That way, it would be up to the creditors to declare them in default, which I presume they won’t do, no matter what.

      Obviously, Greek will never pay a penny of debt in a non devalued currency, but as long they promise they will, the troika can extend and pretend. And if Greece isn’t paying interest, perhaps they can move toward getting back on their feet.

      • Geoff


        Oh my sweet Lord, that would be fantastic! Greece suspends all interest payments and stands there in default while crickets chirp. Seconds later, the MSM starts telling Joe Investor that this isn’t REALLY a default, because…blah blah blah.

        Dear God? It’s me, Geoff. Please make this happen. The world could really use some good belly laughs, plus this would clearly lay out for world investors just how corrupt this whole thing is.

        • Jason Emery

          Hi Geoff. If you follow the sites linked to here at ‘Dollar Collapse’, you would know that they ALREADY declared that a default isn’t really a default. That was the big leap of (non) faith, lol. Now that that bridge has been crossed, the one I’m suggesting is over a mere puddle.

          I get it that they can’t write all the debt off and start over, since it would mean an instantaneous decline in the std. of living in the developed world of 25% to 50%. So the question is, ‘how to best get there slowly’? I really don’t know. Every time they suggest raising the retirement age 6 months, the Europeans go nuts, lmao.

  • Agent P

    “Get ready, American and European taxpayers. You’re about to become proud owners of several trillion dollars of slightly used Greek and Italian credit default swaps. Merry Christmas!”

    Does any of this really matter anymore…? Actions and reactions regarding debt and monetary debasement have become as predictable as the sunrise. At sub $1600, the wise man should be buying all the way down, because when this ‘Thing’ ignites in a firestorm of debasement to save the Western banking establishment (and make no mistake, if there is Large Exposure for U.S. banking hegemony, the $Kerosene is going to flow like wine), it will – as Jim Sinclair said: ‘Light your hair on fire’.

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  • Jon

    Ron Paul: Not an Isolationist but a Non-Interventionist


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