Ritchie solves the euro crisis!

We have the master\’s solution.

Recapitalise the banks through sticking new government bonds into them.

Then get all sovereigns to default on their debt:

Instead the debt has to be acknowledged, and be acknowledged to be due as nothing else will satisfy the German public. It must also be deferred. And it must also carry an affordable rate of interest. Dealing with this last point first, the inter government debts of these countries have to carry a rate of interest no higher than ECB base rate. Indeed, 1% seems more than enough. And no roll up of the underpayment should be allowed: this rate should be what is payable. That way the liability is recognised but at such an interest rate let’s also be honest, inflation will cover the cost.

There is of course a slight problem in that the debt that we\’ve just injected into the banks becomes a great deal less valuable once we stick a 1% interest rate on it. For, note, for the bonds to actually be viable as capital (which is the intention) then they have to be valued at what someone will pay for them. A Spanish long term bond paying 1% is not, as you might note, very valuable right now.

But leave that aside: and note what it is that he\’s actually suggesting. Deferral of principle, unilateral lowering of interest rates. This is default: exactly what Greece has just done.

And, err, what happens to the ECB, the Bundesbank, even the IMF, when their €hundreds of billions and trillions of assets take a 70% dive in value as this default would mean they would?

Quite, they go bust.

6 thoughts on “Ritchie solves the euro crisis!”

  1. “And, err, what happens to the ECB, the Bundesbank, even the IMF, when their €hundreds of billions and trillions of assets take a 70% dive in value”

    I’m sure Ritchie will come up with a solution. After all, he’s solved all the other problems.

  2. To be fair, does it really matter if the ECB is in negative equity? What affect does it have on the banking/financial system?

  3. Offshore Observer

    Frances, but the ECB is a bank which has capital supplied by the central banks of the various member states. When it chews through that capital it will need to be recapitalised via capital injections from the MS central banks. That means if the ECB loses a bunch of money on Spanish or Greek debt then the French and German taxpayers must pay.

    Are they ready to cross that particular rubicon?

    I also query whether the ECB is permitted to trade whilst insolveny. Most central banks are not although there is a clear exception in that the Bank of England is permitted to trade whilst insolvency.

    Tim’s point is that central banks can fail just like any other bank. They rely for thier authority on the underlying taxpayer covenant. In most jurisdictions where the government and the central bank are ultimately the same the taxpayer covenant is obvious. In the EU there is none that I can see.

    As far as revenue from future seniorage this is generally paid out to the MS central banks as dividends and goes via those dividends onto the balance sheets of the various soverigns. That means reduced revenues for the MS as well.

  4. Offshore Observer

    The distinction between insolvency and illiquidity is a very fine one for a bank. Arguably most European banks are technically insolvent, but it doesn’t necessarily stop them trading. Japan allowed insolvent banks to trade for years, keeping them going with frequent injections of money. The ECB went down the same route with its LTROs. I’ve explained in this post why it isn’t so easy to tell the difference between insolvency and illiquidity:


    So it isn’t quite as straightforward as you suggest.

    Even were the ECB to be obviously insolvent – and as I’ve said already, that is by no means certain – I have no doubt that the sovereigns would bail it out. There may be nothing in the EU directives to cover this situation, but that wouldn’t stop them.

    It would be ridiculous for an “insolvent” ECB to pay out seigniorage receipts, any more than an insolvent bank would pay shareholder dividends. It would of course keep them to shore up its balance sheet.

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