To understand the current events in Europe and the handling of the eurozone
debt crisis, it is best if one is familiar with the epic, unfinished novel The
Man Without Qualities, by Robert Musil (1880-1942). Viewed either
through the prism of a fictional existence of the protagonist mathematician
Ulrich or as a metaphysical commentary on the protagonist's adaptation to a
life without meaning, Qualities navigates the reader through multiple
realities and arrives at an inconclusive ending; an end that seeks to be
continued, as it were.
There was a period in history when the word "summit" actually meant something.
For example when Winston Churchill, Franklin D Roosevelt and Joseph Stalin had
a summit, the word was well-deserved because each of the men could throw or had
thrown hundreds of thousands of citizens into war. Even when the opposite-end
folks, ie Adolf Hitler and Benito Mussolini, met, it could be called a summit
because here were two truly horrible men who had commanded millions to their
In contrast, the best way to
describe today's crop of European politicians is
"men without qualities", people who have neither l
nor administrative skills. The classic Don Martin
figure (left) is more appropriate not so much
as a caricature but the real thing masquerading as
a comic figure.
When this crop of politicians - Germany's Angela Merkel, France's Nicolas
Sarkozy, Silvio Berlusconi of Italy et al - do agree to meet, it would
be a mistake to term that a "summit". A more appropriate description would be
"base camp"; think about it, these guys meet, and then start negotiations
without having the ability to agree on anything because their governments back
home simply never secured the mandates to do so.
Imagine when Stalin and Roosevelt met with Churchill, the Englishman simply
listened to the proposals for D-Day and then promised to confirm British
participation once he returned home.
Base camp materials
So what has this base camp run by men without qualities, managed to achieve? In
my opinion, "precisely nothing" would be a polite description, while "dangerous
prestidigitation" would be more accurate if a general mouthful.
By far the biggest problem is the one involving the European Financial
Stability Fund (EFSF), where the promise had been to increase its size from 440
billion euros (US$606 billion) to over 1 trillion euros. This appears to have
been achieved as per the headlines, but not so well once we go into the
The mechanics of the funding increase are to offer "credit enhancements" to the
issue of Italian and Spanish debt going forward. In other words, if the EFSF is
rated at say triple-A, a bond investor buying Italian government debt can shrug
off the impact of any downgrade because there is a triple-A backup facility
that would pay him par should Italy ever go bankrupt. So far so good.
But think this one through the prism of the Greek default - wherein the
European Union base camp have decided that a) only private sector creditors
lose money, and b) the debt forgiveness of 50% is to be voluntary.
The idea for the latter was to avoid a "trigger" event for credit default swaps
(CDS) and therefore avoid all protection sellers (mainly European banks) from
paying out on the notional value to protection buyers (mainly American hedge
funds). This is how the term voluntary has been used, in effect, to destroy the
value of legitimate trades done by various investors.
So if you were an early buyer of Greek sovereign debt and decided say in 2008
that the country was heading in the wrong direction and therefore decided to
buy CDS protection, you may have approached the last weekend thinking that your
exposure is hedged, as the loss in the bonds would be offset by payments due on
the CDS. Instead, you will now nurse a loss on the bonds, but without the
corresponding offset gain in CDS. In other words, you have just been hosed, as
your insurance is worthless.
That is precisely the same point where the idea of insurance or credit
enhancement falls at the altar. Why should investors who just got burned on
Greek bonds turn around and trust the same people who screwed them in terms of
future credit enhancements on Spanish or Italian bonds? What is to stop a
future European Union base camp from deciding on implementing a "voluntary"
restructuring of Italian or Spanish bonds, and on the basis of which no
payments would be forthcoming from the EFSF for losses suffered?
Hello, anyone home?
Then there is the counter-intuitive bank capitalization program. The idea is
that to strengthen the European banking system, new capital would be required
to the tune of 106 billion euros. Firstly no one with a clue actually believes
that number - when the folks who do a stress test that comes up with the best
bank in the region being Dexia, only for that bank to embrace a very quick
tryst with destiny just a few weeks later, you have a serious problem with
credibility. So when you say the "shortfall" is 106 billion euros, any
reasonable person is going to assume 500 billion euros, give or take.
The follow-up question is - how are the losses on Greek sovereign debt now to
be treated at the various banks? French banks got into trouble over the past
few weeks because they had assumed a 21% loss on Greek bonds, but will now have
to eat 50%. Many of them claimed to have "hedged" themselves through CDS -
which is now worthless. So, what is the actual loss due to Greece, and how is
it distributed across the various banks?
The mother of all questions though is one of where that money is to be raised,
and more importantly how. There is loose talk in the base camp statement that
private sector solutions must first be found, after which the states would
intervene as necessary. Meanwhile, the banks would be encouraged not to cut
their trading books or their loan books, in a panic attempt to reduce
extraneous shocks of which there will be none - because the European base
campers have said so.
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(Don Martin cartoon
figure copyright Don Martin and his estate.)