The end of the eurozone

The more I read about what people are doing about the euro the more I become convinced that it\’s going to crash and burn.

Warner and Ambrose for example.

Yes, yes, I know, I\’ve been saying for near a decade now (that, at least, is how long I can prove I\’ve been saying it) that it was all a bad idea to begin with. And that we shouldn\’t have had it and after we\’ve not had it we\’ll be better off: despite the process of getting rid of it being most unlikely to be fluffy bunny time.

But right now, in the middle of the crisis, what\’s driving my thinking is the realisation that those trying to manage the crisis simply don\’t understand what it is that they\’re trying to manage. Sarkozy and Merkel: they didn\’t announce anything that could possibly take effect in under 6 months. It\’ll be done and dusted one way or the other by then.

To preserve the euro and the monetary union, they have to do one of two things: either Germany agrees to start shipping money around, taken from the taxpayers\’ pockets. Or Germany agrees that the ECB can go out and spend a few hundred billion to a trillion or more of newly created money on purchasing PIIGS secondary market debt. This would take the money in a disguised manner through inflation.

Those really are the only two workable solutions and as Ambrose points out, Italy has to roll over 100 billion of debt by late September. Those really are the sort of sums we\’re talking about.

If neither of those are done then either some of the PIIGS are going to have to leave or (or at the very least default which just means all these things happening anyway), better yet, Germany should leave.

And the impression I get is that none of those trying to deal with matters grasp these points. They\’re not dealing with \”bond vigilantes\” who can be awed into not betting against certain bonds: they\’re dealing with investment managers who are simply not willing to purchase new bonds. There\’s a huge difference between the two. It\’s not speculation, it\’s refusing the throw good money after bad.

They all really do think that politicians making a few speeches solve problems.

20 thoughts on “The end of the eurozone”

  1. As your favourite 18th century economist said, there is a lot of ruin in a nation. Predicting economic crashes accurately can be difficult. Politicians have a way of kicking the can down the road just when you think reality will intrude. But you may be right. The amount of ruin in this bunch of nations may be used up and the dam may now burst. Who knows? Just make sure your personal situation can deal with the consequences of economic collapse, and watch and see.

    We live in interesting times.

  2. We all agree it’s a dog’s breakfast and will crash and burn. But when? And how bad will it get?
    Here’s an idea. Finland (just elected a €sceptic govt) could announce its withdrawal. A bit of exchange controls and extra bank supervision and the new Finnmark could be up and running in months with no bad long-term effects. It’d show the Germans how to do it and be a relatively cheap testing ground for the breakup even if it was very messy.

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  4. The question is, I mean, my question is, if it does crash and burn- the Euro comes to an end- what replaces it? And what happens to the actual debt?

  5. The euro gets replaced by the new Drachma, new Peseta etc. or maybe by the Euro South & Euro North at some agreed conversion rate. Then either the debt is redenominated in the new currency and gets inflated away, to the cost of the lenders outside the new currency or they just bite the bullet and “reschedule” – i.e. default it in any case.
    It will cause a major banking crisis, but it seems to me that the longer they leave it, the bigger the potential damage becomes.

  6. Mind you, I still have to see any evidence that our Coalition government has any idea of how very dire our own situation is. So Angela and Nicolas aren’t far out of line with usual practice.

  7. Italy as a country doesn’t have a debt crisis, so why would changing its currency make any difference?

  8. I don’t think Merkozy is/are trying to solve anyone’s debt problem, let alone prop up (or even prolong the survival of) the current local administrations in the PIIGS.

    What they are trying to do is construct the new Unitary State of “Europe”, and their hope is that if they can keep kicking the can down the road until the German Constitutional Court agrees that Germany will pick up the bill for whole continent, then they will be one huge step further along with their great ambition.

    They’ll probably fail – their project will crash and burn before the deadline – but we shouldn’t criticise them on the wrong premises.

    As Nicholas Ridley said long ago, the whole thing is a German racket.

    And, @IanB, I do wonder that too.

  9. @Matthew2: they don’t have an immediate debt crisis no, but they do have a crisis of lack of competitiveness vs the Germanic core. A new lira would allow them to get back on an even keel, and be able to reduce their (quite large) debt overhang.

    The most obvious solution to this crisis is for Germany to leave the euro, and adopt a new DM. All their existing debts could stay in euros, and given the new DM would undoubtedly appreciate rapidly against the euro, repaying the interest/principal would cost them less than now. The remainder of the euro nations would be unaffected – their debts and national currencies would continue to be the same, but they would have gained a big competitive boost vs Germany.

    Of course this is precisely why Germany won’t leave – they want their cake and eat it. They want everyone to go on buying BMWs but don’t want to bail out the bankrupt nations. Something has to give.

  10. Ian – I don’t have the exact figures on me but Italy’s external debt is about 400bn euros, which is something like 30% of GPD. It’s got gold and forex of 120bn euros, which nets off that. Of its government debt about 44% is owed to foreigners and 56% held domestically.

    Japan is the extreme here – it has govt debt approaching something like 200% of GDP but the country has huge net external assets.
    ——————————-
    Jim – surely if Italy left the eurozone it wouldn’t reduce its debt burden, it would increase it, unless you see the lira rising against the euro, but that would worsen its competiveness.

    A devaluation would help Italy’s competiveness but obviously it wouldn’t long-term, and I think even short-term Italy’s problems were to do with a low productivity sector which has been hit by globalisation, and no devalaution is going to help that.

  11. Unless the northerners leave the ECB is bust.
    My bet (it’s an uneducated guess) is still for 6 p.m. 21-12-2011 for Greece to leave.

  12. @Rob: well yes if just Italy left, then its debt would still be in euros , a different currency to its domestic one, and they would probably owe even more (in local currency terms) as it would devalue vs the euro.

    I was more thinking that if Italy got its old currency back, the same would be happening in Greece, Ireland, Spain and Portugal at least, with Belgium not far behind. This would entail some sort of debt default deal – converting the old euro debt to new currency debt.

    The simple truth is there are no good solutions, just least painful ones. Germany leaving the euro is probably the least bad solution. But I suspect it is politically impossible.

  13. I don’t see why such reason why easier to default outside euro than inside it.

    Presumably one reason bond yields have risen is investors fear some kind of currency default from these countries (although bond investors seem strangely myopic about devaluation losses)

  14. Is it true that Germany has agreed to bail out everybody if the name is changed from ‘European Union’ to ‘Fourth Reich’?

  15. The problem is not so much government deficits but trade imbalances.

    Germany is the biggest exporter in the world, yet have no reserves compared to 3Tns for China. Where do you think the money is? The break up of the euro has been built in the system since all central banks still have have their accounts at the BIS so everybody knows what they owe to who.

    So it seems that whatever it is they do to try and save the euro, it won’t work in the end. The longer they kick that can, the worse it will be.

    Although now they put Herman in charge, I feel a lot better…

  16. It’s not true – Germany has enormous foreign assets (gross but also net). You’re confusing government assets with national assets, surely?

  17. @Matthew2: Germany as a geographical entity may have large foreign assets, but the State does not. If the State has large debts you can’t really say ‘But loads of private companies and individuals have an equal or larger number of foreign assets, so thats all OK’. The only way you can net them off is if the State is prepared to seize all privately owned foreign assets.

    Imagine you lived in a street of 10 houses. You owned yours outright and had £500K in the bank. The other 9 houses owed an average of £55k each. Thus, as a street all assets and liabilities net off. But that won’t stop the bank foreclosing on one of them if they don’t keep up the payments.

  18. Jim – the German government can raises taxes and has a long history of being able to do so. Your analogy misses that out, which I think makes it irrelevant.

    The German government is also in the lucky position of having a reserve currency as its own currency, something which will continue even if there was no Eurozone.

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